菲利普莫里斯國際 (PM) 2011 Q3 法說會逐字稿

Good day, and welcome to the Philip Morris International third-quarter 2011 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) Media representatives on the call will also be invited to ask questions at the conclusion of questions from the investment community. I will now turn the call over to Mr. Nick Rolli, Vice President of Investor Relations and Financial Communications. Please go ahead, sir.

Welcome. Thank you for joining us. Earlier today, we issued a news release containing detailed information on our 2011 third-quarter results. You may access the release on our website at www.pmi.com. During our call today, we will be talking about results for the third quarter 2011 and comparing them with the same period in 2010, unless otherwise stated. References to PMI's volumes are for PMI shipments.

Industry volume and market shares are the latest data available from a number of internal and external sources. Organic volume refers to volume excluding acquisitions. Net revenues exclude excise taxes. Operating companies income, or OCI, is defined as operating income before general corporate expenses and the amortization of intangibles. You'll find data tables showing how we made adjustments to net revenues and OCI for currency, acquisitions, asset impairment, exit and other costs, free cash flow calculations, and adjustments to earnings per share, or EPS, as well as reconciliations to US GAAP measures, at the end of today's webcast slides, 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. Now, my pleasure to introduce Hermann Waldemer, our Chief Financial Officer. Hermann?

Welcome, ladies and gentlemen. I am extremely pleased to report that we achieved outstanding financial results in the third quarter. Net revenues, excluding currency and acquisitions, increased by 15.7%; and adjusted OCI, excluding currency and acquisitions, was 23.7% higher. Finally, adjusted diluted EPS reached $1.37 per share and grew by a remarkable 33%, excluding currency. While these results were boosted by relatively easy year-on-year comparisons in the third quarter, we comfortably surpassed all our mid- to long-term currency-neutral targets, even excluding the whole of our business in Japan; and year to date, we are well within these targets.

Our business outlook has further improved since July, fully compensating the recent unfavorable currency movements. This has enabled us to narrow our 2011 reported diluted EPS guidance to the upper half of our previous range, namely to $4.75 to $4.80. Compared to our adjusted diluted EPS of $3.87 in 2010, this translates into an improved growth rate, excluding currency, of approximately 17.5% to 19%, well above our mid- to long-term currency-neutral growth target, and approximately 22.5% to 24% at prevailing exchange rates.

Our third-quarter volume was exceptionally strong. We achieved an organic cigarette volume growth of 4.4%, led by the Asia region with an increase of 12.6% and EEMA with 4.8%. On a year-to-date September basis, we have achieved organic volume growth of 0.5%. While there has been a lot of focus on Japan volume, I would like to emphasize that we achieved organic volume growth of 2.3%, excluding Japan, in the third quarter. Furthermore, on a year-to-date basis, the combined increase in our volume in Indonesia and Korea was nearly double that of Japan.

Our entire brand portfolio has performed very well. Every single one of our top-ten brands achieved volume growth, both in the third quarter and year to date -- be they international brands, such as Marlboro, L&M, and Parliament, or leading local brands such as Fortune in the Philippines and Sampoerna A in Indonesia. I would like to highlight the remarkable performance of Parliament, whose volume was up 16.2% in the quarter and 9.9% year to date.

We are particularly pleased by the improved performance of Marlboro, which is gaining share on a global basis, excluding China and the US. In the quarter, Marlboro volume increased at double-digit rates in both the Asia and EEMA regions. On a year-to-date basis, Marlboro has gained 0.3 and 0.5 share points, respectively, in these regions. Marlboro's slight share decline in the EU region reflects the pressure on the premium segments for continued economic difficulties in parts of southern Europe, as well as a moderate share loss in Germany. However, the brand gained share or was notably stable in Belgium, Czech Republic, France, Hungary, the Netherlands, and Poland.

The share decline in the Latin American/Canada region masks the superb momentum of Marlboro across the region, and is the result of the over-indexation of Marlboro in Mexico. Their industry volume has declined at a double-digit rate since the large tax-driven price increases in December last year. This very good performance is evidenced by significant share gains in the four key Latin American markets of Argentina, Brazil, Colombia, and Mexico. Our excellent business momentum is reflected in our overall strong share performance. Year to date, our market share in our top-30 OCI markets was up 1.4 share points, to 36.3%. In the quarter, we achieved the highest share in the clear majority of these 30 markets, for an overall gain of 1.2 share points.

On a regional basis, our results in Asia -- the growth engine of our Company -- were outstanding, with net revenues and adjusted OCI, both excluding currency and acquisitions, up 39.1% and 75.1%, respectively. This was driven in particular by Indonesia, Japan, Korea, and Philippines. We also enjoyed strong performances in the other three regions. In EEMA, net revenues grew 11.2% and adjusted OCI 13.8%, both excluding currency and acquisitions. In Latin America and Canada, they were up 8.3% and 9%, respectively. Our results in the EU improved, with net revenues and adjusted OCI, excluding currency and acquisitions, up 2.2% and 3.1% respectively.

During the third quarter, PMI shipments to Japan reached 16 billion units, up 5.1 billion or 47.1% compared to the same period last year. The increase reflects the higher market share that we have achieved this year, as well as easy comparisons due to the payback in 2010 of our distributor inventory build-up in the second quarter of last year in anticipation of increased trade and consumer purchases ahead of the October tax-driven price increase. Our third-quarter market share of 27.9% was distorted by competitive trade reloading, following shortages of their products through August.

We do not expect shipments to the trades to mirror consumer demand until at least the fourth quarter, and possibly only in the first quarter next year. We remain, nevertheless, optimistic that we should be able to retain considerable additional market share. Our confidence is based on our ability to maintain a consumer offtake share in convenience stores, such as Lawson, at the level slightly above 30% in September and early October, after all competitive products are available to consumers again. This compared to a pre-earthquake share in these outlets of around 26%.

The other important element that we expect to be able to confirm in the fourth quarter is the evolution in the total market. We now forecast that industry volume will decrease this year by no more than 15% -- a much lower rate of decline than the 20% forecast at the beginning of this year. Our business is also doing extremely well in Indonesia. Industry volume growth in the quarter was well over 10%, driven by increasing consumer purchasing power, limited inflation, higher consumer confidence, and positive demographic trends. Our volume rose 22.5% and our market share reached a record level of 31.2% -- a gain of 2 share points. This very strong performance was led by Sampoerna A, which increased its market share by 0.9 points to 12.1%. Pricing remains robust, and we expect the government to continue to implement plans to simplify the excise tax structure.

All these trends are very encouraging, as Indonesia is a very profitable market, with significant potential for further growth. Our market share in Russia was up slightly in the quarter through August to 25.8%, behind Parliament in premium, Chesterfield in the mid-price, and Bond Street in the low-price segment. Our volume in the third quarter was down 3.5%, due to distributor inventory adjustments, as well as the impact on the total market of recent price increases. During the fourth quarter of this year, we expect the Russian Parliament to approve the new road map for excise taxes on tobacco products. This calls for increases that are higher than originally planned, yet still expected to be manageable, with two steps in 2012.

PMI volume in Turkey rose 21.6% in the third quarter and our market share reached 45.7% -- a gain of 3.9 points, led by Parliament in premium, Muratti in mid-price and L&M in the low-price segment. While the market had stabilized so far this year, we expect a recently announced excessive increase in the ad valorem excise tax rate, along with an ineffective minimum excise tax, to cause considerable disruption. We will continue, therefore, to vigorously put forward our rational arguments for a more balanced excise tax structure in Turkey. Germany has benefited from more robust market volume trends this year. Total market volume in Germany was actually up 0.3% in the quarter for cigarettes and 3.8% for fine-cut, continuing the positive trend of the first half of this year.

Our cigarette volume grew by 1.2% in the third quarter, and PMI gained 0.3 share points to reach 35.2%, thanks to the continued strong growth of L&M, which remained the fastest growing brand in the market and was able to more than offset the decline of Marlboro. PMI also gained share in the fine-cut segment. Of even greater importance, our profitability has been enhanced by the price increase that we implemented in the second quarter of this year, following the May excise tax increase. The next tax step will take place in January 2012.

We have tremendous business momentum in France, where the overall market has remained stable for -- so far this year. In the third quarter, we further increased our market share by 0.4 points to 40.4%, driven by the strong performance of our premium brands, Marlboro and Philip Morris. Furthermore, we achieved market leadership in the fine-cut market with a share of 25.2%, thanks to the successful launch into this segment in February this year of Marlboro. The brand reached a 6.8% segment share in the third quarter.

Finally, we have just announced a price increase of EUR0.30 per pack across our whole cigarette portfolio. This should enhance our profitability going forward. Spain remains a troubled economy, with very high unemployment and a difficult tobacco market. Industry cigarette volume is forecast to decline at least 15% in 2011. The pricing situation was resolved in September when we increased our retail prices by EUR0.25, bringing Marlboro to its previous level of EUR4.25 per pack and L&M to EUR3.75. This should enable our profitability to recover.

With the temporary exception of Spain, the pricing environment continues to be very favorable. This is highlighted by the $564 million in pricing variance that we achieved in the third quarter this year and the $1.6 billion year to date. During 2011, we have implemented or announced price increase in the majority of our key markets, including Australia, Indonesia, and the Philippines in Asia; Algeria, Russia, Saudi Arabia, and Ukraine in EEMA; France, Germany, Italy, Poland, and Spain in the EU; and finally, Argentina, Brazil, and Canada in the Latin America and Canada region.

Our outlook on costs remains very favorable. Current tobacco leaf crop prices are stable to slightly declining on a worldwide average basis. Tobacco and direct material cost increases are very moderate and broadly in line with inflation, and are being offset by our continued productivity efforts. We expect to comfortably exceed our $250 million pretax target for cost savings this year. The combination of strong pricing and limited cost increases has enabled us to continue to grow our superior adjusted OCI margins.

On a PMI-wide basis, our adjusted OCI margin, excluding currency and acquisitions, reached 47.3% in the third quarter -- a gain of 3.1 points. One reason for the absence of downward pressure on prices in our industry is the important role of excise taxes and the desire of governments to continue to grow revenues. This can be achieved through a judicious combination of reasonable excise tax increases, structural enhancements, and higher prices.

There have been improvements in excise tax structures in several markets this year, and some countries have adopted multi-year tax plans, including Germany and Indonesia. While government deficit-financing needs point to renewed pressure on excise taxation as a source of additional revenues, most governments appear to have understood that large disruptive excise tax increases do not improve revenue-generating capabilities over the mid to long term.

We do, however, expect some countries to seek to generate higher revenues by increasing VAT, which will push prices higher, though this should be manageable. Every year, there are nevertheless still a few governments that continue from time to time to introduce very large and disruptive excise tax increases. As I mentioned, this happened last week in Turkey, and additional surprises remain possible as it is still early in the budget process in many countries.

When it comes to plain packaging, we believe that there is no sound evidence that such a regulation would reduce consumption, smoking incidents, or youth smoking, or provide any other public health benefits. Indeed, plain packaging would undermine public health objectives by lowering prices and increasing illicit trade. In addition, it would violate intellectual property protections and breach international trade obligations.

We, therefore, do not believe that plain packaging regulations should be widely adopted by other governments outside Australia. Though the proposed bill has not yet passed the Senate, the Australian government seems intent on ignoring these adverse consequences and on introducing such a regulation. We are, therefore, vigorously pursuing several legal avenues to challenge this unreasonable proposal and protect our valuable brands.

During the third quarter, our free cash flow increased by $577 million, or 25.6%, to $2.8 billion. Excluding currency, the increase was $363 million, or 16.1%. The increase was driven mainly by our excellent business results. On a year-to-date basis, our free cash flow was up more than $1.6 billion, to $9 billion. Our confidence in the underlying strength of our business and our ability to continue to generate a growing cash flow is reflected in the 20.3% increase in our dividend that we announced last month. As of the close on Tuesday, our dividend yield stood at the very attractive level of 4.6%.

Since the spin in March 2008, we have increased the dividend by 67%, an achievement that few companies have matched, over a period that included a major financial crisis, significant currency fluctuations, and an acute recession. During the third quarter, we spent $1.4 billion to repurchase a further 21.2 million shares. Since the March 2008 spinoff, we have now used over $20 billion to repurchase nearly 400 million shares, at an average price of $50.81. Over the same period, we have paid out over $14 billion in dividend; so in total, we have returned nearly $35 billion to our shareholders.

In conclusion, PMI had an outstanding third quarter. Organic volume grew by a remarkable 4.4%, with all of this growth outside Japan. This was driven by the very strong performance of all our main brands, led by Marlboro and Parliament. Our market share momentum remained very strong. Net revenues and adjusted OCI, excluding currency and acquisitions, were up 15.7% and 23.7%, respectively. Adjusted diluted EPS, excluding currency, increased by 33%. The pricing environment remains very favorable, and the majority of governments continue to act rationally on excise taxation.

Our business outlook has improved further since July, enabling us to narrow our reported diluted 2011 EPS guidance to the upper half of our previous range -- namely, to $4.75 to $4.80 -- this despite recent unfavorable currency movements. Compared to our adjusted diluted EPS of $3.87 in 2010, this corresponds to an improved growth rate of approximately 22.5% to 24% at prevailing exchange rates, and approximately 17.5% to 19% excluding currency. And finally, and perhaps most important, we have demonstrated again our focus on shareholder returns and shown our confidence in our bright future with the Board's decision in September to increase our dividend by a further 20.3%. Thank you. I will now be happy to answer your questions.

Thank you. We will now conduct the question-and-answer portion of the conference. (Operator Instructions) Our first question comes from the line of Bonnie Herzog with Wells Fargo.

I just actually wanted to touch on Japan. You mentioned you feel comfortable that you're going to be able to retain around a 30% retail share in the market. So, I was hoping you could give us a few more details on what you're seeing in this market, in terms of the consumer purchase patterns. And then, maybe also relative to what JT has been doing to take back some of their share.

Okay. The published shares that you see there also have been on JT's side. The shipment shares, be it now in the quarter or year to date, are not really representative yet. I mean, it's simply the fact that, of course, the pipeline on JT's product had been empty, and has been reloaded now to whatever JT considers to be a necessary level of their volumes. So, in terms, really, of what sticks with the consumer, we simply have to wait a little bit until those shipment shares will equal really consumer offtake shares again, which -- as it has been the case in the past. For now, I really think that the consumer offtake shares, which we measure in the [sea] stores, give you the best indication.

This is, of course, not a national average; this is a snapshot. And also, in those stores, our share before has been slightly higher than the national average. But we continue to see, even now in the beginning also of October, the very latest numbers -- and we of course look at them every week -- that our shares continue to be slightly above 30%, with Marlboro shares in there being stable. So, therefore, I mean, that of course makes us feel good about the retention shares that we will be able to keep, and which will form a much better basis from which to grow going into next year.

Okay. And then, in terms of your overall business in Asia, it's obviously doing quite well, even excluding Japan. And it appears, in general, the economy and consumers are faring much better in Asia than the rest of the world, especially when we look at your margins, excluding currency and acquisitions. I think they're up almost 10%. So, I was hoping you could, again, drill down a little deeper, maybe give us a few more details on what the key dynamics are here, specifically in Indonesia and then Korea, maybe long-term growth rates you expect in those key markets.

Yes, Indonesia -- Asia, overall, as I said on the prepared remarks, as well, is the growth engine of our Company. But Asia -- it's not Asia alone. We are also having very decent results in the other regions -- take the EEMA region, take the Latin America region, but also take the EU region, where we have returned to OCI growth. So, while the growth rates are the strongest in Asia, the business is doing very well also elsewhere.

Now, going precisely on the question on Indonesia, well, you have a country which has none of the European problems that European governments are facing, very strong market economic indicators, GDP growing, inflation under control, unemployment down, growing population, of course, as well. And all of that taken together leads to a cigarette market that is year to date growing a bit more than 10%; I mean, this market is marching towards a total size of probably one time reaching 300 billion cigarettes. So, it's a huge market, actually the second most important in terms of size after Russia.

At the same time, the tax outlook is manageable -- excise taxes go up, they go up slightly above inflation. They are bringing the tax tiers over time together. They are willing to do away with that loophole on using new legal entities to benefit from lower-tier tax advantages. And we are having an excellent portfolio in the market, where not only some [kind of] (inaudible) is the best, but also (inaudible) is doing fine, U Mild is growing. So, we are doing really well, and we have actually also good price points on our individual brands when it comes to the prices that those are being sold by retailers on a stick basis.

Okay. That's helpful. And then, one final question on currency headwinds that you'll be facing as we head into 2012. What can you tell us about what you're expecting, and maybe any of your hedging strategies? Can you give us an update?

Okay. Now, for this year, we had forecast a $0.25 currency favorability still around the second-quarter earnings call. That has been reduced now; and we now, at prevailing rates, we expect $0.20 for the year. Well, that's pretty much the number that we have year to date. So, therefore, I wouldn't talk about unfavorable currency in the fourth quarter, because actually at prevailing rates, the fourth quarter of this year is going to be a currency-neutral quarter.

We will see what the actual rates will be; but at prevailing rates, you could expect a currency-neutral quarter. Going into next year, who can forecast the currency rates of next year? I can't. I would only say we have so much focus these days, again, on the problems in Europe and around the euro. The focus will come back on the United States, as well. That's what I would predict going into next year.

All right. Will you have an update on the fourth-quarter call?

Well, we will, of course, when we do -- when we come to the guidance for 2012, which will be on the fourth-quarter call in February of 2012. There, of course, we will give the update on what currency assumptions will be the basis of our guidance then.

All right. Thanks, Hermann.

David Adelman, Morgan Stanley.

First, Hermann, can you talk about the implicit outlook that you're making for the fourth quarter? It looks like to me like on a local currency basis, the new EPS guidance would only imply fairly modest, underlying operating profit growth.

No, David, there is -- there is no concern or no watch out that I would have to raise here for the fourth quarter. The fourth quarter is -- traditionally has always been a quarter where more of the expense is occurring than in the earlier quarters of the year. That's normal. That's nothing new. That's every year the case. I mean, we give full-year guidances; and, as I just said, the $0.05 of currency unfavorability, we have compensated with even further improved business outlook. And, as of now, at prevailing rates, the fourth quarter would be a currency-neutral quarter. So, no watch out, nothing to worry about. Look at the full-year guidance, which I believe is a very, very strong guidance, and an expression of our confidence in our business and into our future, as well.

Okay. And then, secondly, Hermann, is the excise tax increase in Turkey the single most challenging one you're going to have to endure, looked at over the last several years, taking into account the nature, the magnitude of the increase, the relative importance of the market, your performance in the market, and so on?

Well, no, I wouldn't say that. It is, of course, disruptive, a disruptive excise increase. It is bad news, but a year ago we have been discussing Mexico. I wouldn't make much of a difference between the two at the end of the day. What I would add and say on Turkey -- well, the excise increase is, of course, a problem for all the competitors. This excise increase is not benefiting the government, I'm convinced about. This is not generating, for the mid and long term, solid increased revenue base.

The only one party benefiting from that would be people that fell at the very lowest end of the markets, which is not the international companies. It's about TRY4.00 per pack, because at that level, the rollover need is only one-quarter of what it is at the premium end. This doesn't make sense for the government either. At the same time, we, of course, can expect now a steep reaction, at least in the first months, a very steep reaction of the tax paid markets. We certainly can expect an increase in the illicit rate. These are all really straightforward, rational arguments, which give me the hope that there could be a second step later in the process in this story.

Okay. And then, two other quick things, Hermann. Have you had any mediated discussions as of this point with Australian authorities, subsequent to the filing of your claim? Anything substantive?

Yes, we have had that discussion during the negotiation period, which has ended under the bilateral investment treaty between Hong Kong and Australia. However, no solution could be found in that discussion, unfortunately.

Okay. And then, lastly, Hermann, looking out now in the EU over the next several years, how confident are you that you can grow your operating income in that market over time, in light of the fact that presumably, there's going to be a difficult economic backdrop, there will be presumably government austerity measures, the governments will certainly be looking to increase excise taxes as a source of revenue?

Okay. There are, of course, the markets that we know already, like Spain, which are already in difficulties as of today. However, there are a couple of positive aspects to the EU business, really, because you ask the question in a longer context, in a two-, three-year context. First, it is really encouraging to see that we see clearly moderating total market declines. So, in the quarter or in also year to date, we talk about 3.6%, 3.7%; and actually, on a year-to-date basis, half of that is just Spain. So, I -- all the other markets together are declining not even 2% -- Germany is growing, France is stable, and Italy is almost stable. So, that's pretty good.

What will the austerity measures do? Well, the point really is -- what will unemployment do? We have seen that, of course, a steep increase in dramatic levels of unemployment, like in Spain, have an impact. I do not see Spain happening everywhere in Europe. This is way overdone. I don't think that's going to happen. So, then, on excise tax pressure -- it could be, of course, I can't exclude it. But given the financing needs of those governments, I would rather see pressure on general VAT increases in Europe, that those could happen, of course, affecting all products, including our products. That being said, a VAT increase has always been manageable, at the end of the day, in the past. Why wouldn't we be able to manage through these occasions, also, going into the future?

Okay. Thank you very much.

Judy Hong, Goldman Sachs.

The -- in terms of your guidance, Hermann, if you look at this year, the underlying [ex] currency growth of 17.5% to 19% growth, is there a way that you can point out how much of that was what you would characterize as sort of a one-off impact as a result of what happened in Japan, or any other situation that you would characterize as one-off?

Well, I wouldn't characterize anything as a one-off. I would say Japan has been an example of us seizing a business opportunity that presented itself in an optimal manner. And price skirmish in Spain, also while that's part of business, what can you do, I wouldn't call this one a one-off. This is just part of the business on the good and on the bad side. Now, really going to Japan in more detail -- well, we can -- let's try to quantify a little bit what is the year-to-date benefit of us seizing this business opportunity?

I think the fairest way of doing that is that you take our year-to-date shipment share, that is about 31.5%; our going in share prior to the events was about 25%. That's a rounded share gain of 6.5%. On a total market of [$]144 billion, that gives you roughly [$]9.5 billion in volumes. You apply the very decent margins that you estimate for the Japanese markets, you deduct from that substantial air freight cost that was well above $100 million, you deduct from there other costs and investments, you arrive now at a very competitive situation in the fourth quarter, and you, of course, do everything that we need to do to support our brands. You take off the tax rate, and you arrive at something in the range of $250 million net of tax, or something in the range of $0.15 on an EPS basis. I've done a similar calculation at the end of the second quarter, it was about $0.10 to $0.12 then. I hope that helps.

It does help. And I guess the context is more really looking at 2012, because -- and part of that, I guess, depends on how much share you retain in Japan, because we'll be lapping some of the benefit you saw in Q2 as a result of the disruption. But I guess your point is, if you take the year-to-date number of 31.5% and if you think about that 30% that you're seeing at the offtake trend, that would sort of be the comparable number, just in terms of -- on the volume side. And then, I guess, on the pricing side, though -- because in 2011 you also saw the benefit of the price increases in Japan and the volume decline coming in better than expected. So, is it fair to think about -- that was -- that's also a partial benefit to your 2011 earnings growth, in terms of [ex] currency basis? And then, the comparison in 2012 is not as positive, I guess, depending on what the tax situation unfolds in Japan.

Exactly. The most important point, you just said it -- well, what is going to be the tax and price situation going into 2012, which is very hard to predict now. I think it's easy to predict that the market decline will be much more moderate than what we have seen this year, because nobody expects a tax and price hike of the dimension that we have seen in October 2012. Where it stands now, in terms of tax in Japan, is that the TPJ Tax Council has come out with a proposal of JPY40 per pack, to be discussed with opposition parties, which we're against.

In recent discussions, we also have heard that eventually, excise tax could be excluded altogether from the financing of the reconstruction package. However, let's be clear here, even an exclusion from that package does not mean an exclusion of tax measures in the ordinary budget. So, we will have to see what's going to come out in terms of tax, and then after in terms of price, because, well, the central approval by the Finance Ministry of price increases is also still in place. So, a lot of question marks at this point in time. We will see the outcome. But you mentioned it, we will, of course, start the year in Japan from a much stronger base than we have been starting the year in 2011.

Okay. And then, Hermann, just following up on David's question about EU region -- I guess, just in terms of those, the persistent market share losses that you've been experiencing -- and obviously, more the macro challenges and the fact that you're more exposed to premium segment than others, are you rethinking your brand portfolio strategy in any meaningful way to be a little bit more aggressive in some of the value segment? I think you talked about this a little bit at your analyst meeting, but just wanted to get an update on how you're thinking about share versus maybe a mix or profit in that region?

We certainly want the EU region to return to OCI growth. Now, in the European context, we have seen a number of markets, their brands over the last years had been repositioned to the low end. We have answered that in the markets where it was necessary with brands out of our portfolio. I mean, Germany is a much different situation than it has been a couple of years ago. We have Marlboro there, yes; but we also have today there L&M, the fastest-growing brand in the market. The market -- the brand is the highest young-adult smoker share in the market, and we are right now also complementing that with Chesterfield at the same price level in the German market. Take it all together, the market share in the German market actually has been growing. So, our team there, and we have a very strong team in Germany, is doing an excellent job, and it begins to pay off.

If you move over to France, that's a different situation there. There, actually, we have two growing premium brands -- both Philip Morris and Marlboro are doing extremely well in an otherwise stabler market. The market where we are underrepresented at the low end clearly is Italy, where our share at the low-price segment of the market is well below our overall total market share in the market. So, it's a marketing, it's a brand challenge, it's a sales challenge. But we have the portfolio to do something there, and it's not that we wake up to it now. We do something already for the last years.

Okay. Great. Thank you.

Jonathan Fell, Deutsche Bank.

Two things -- on Japan, Hermann, you mentioned that you weren't sure whether or not shipments would be coming in to line with consumer offtake until Q4 or possibly Q1. Does that apply to the industry as a whole, or your own business as well? And I was wondering if you would just talk a little bit more around the factors which create that uncertainty still.

No. You see, it certainly is not coming from our side. But I simply don't know what the individual inventory situation of competitors is, and to what extent they bring volume into the market, to what extent they think that this is the inventory levels that they need. So, therefore, I'm -- I can't know if those will be already the going in and going on volumes that are really consumed by the smokers every month. So --

With regards to your own business, there's no reason to believe that shipments and offtake should match each other more closely in the fourth quarter.

Absolutely. We had no disruption. We just delivered a little more than we usually did. But we kept our business going all through, but there is nothing of that nature on our business.

Okay, thanks. And then, just a quick question on the EEMA region, where you had quite a nice volume recovery in the third quarter. I'm assuming Turkey will reverse. But I'm wondering about Ukraine as well, which had strong growth in the quarter. Does that reverse in the fourth quarter, i.e., is the third-quarter impact undone? Or does it just normalize in Ukraine?

Ukraine is now normalizing. Q3 of this year -- actually, in terms of comparison, benefits from a very weak Q3 of last year.

Okay.

Q3 2010 had the [deload] after the July 2010 price increase, which had a load in Q2 of 2010. So, therefore, we are benefiting in Q3 now from these relatively easy comps, and we are now kind of out of that. And we should see now a situation that normalizes in the Ukrainian market. Let's hope that we have no new disruptions, nothing on the horizon. The Ukraine is one of the markets where you never know.

Okay. That's all. Thank you very much.

Chris Growe, Stifel Nicolaus.

I just had a couple of questions for you. I guess I wanted to better understand -- you've had, obviously, a nice windfall this year in terms of a profit benefit from foreign currency and certainly some very good performances in Japan. And I just want to understand to the extent to which you are, if you will, reinvesting back in the business. You've mentioned some brand-building activities, of course, in Russia, and I think that's been ongoing this year. I wonder if there's a little bit more color you can give on that? And then, also, again, are you investing back in Japan or other markets to take advantage of some of this benefit you have coming through to your earnings?

Okay. We really don't run our business different if the currency is in our favor or is temporarily against us. We always invest into our brands, into the growth of the future. Specifically in Russia -- I mean, Russia is big, Russia is not just Moscow and St. Petersburg, so we need to do more there in terms of work for our brands. We want to do, also, to do more there in terms of our infrastructure, given that Russia is such a large market, a very profitable market, with tremendous potential going forward. So, we put the necessary money behind.

We are not -- we are not doing any short-term swings here. This is a strategy that we have started to pursue last year, that we are pursuing this year, and will continue to pursue also next year. In Japan, it's -- there it's really the fourth quarter is, of course, in terms of point-of-sale presence, in terms of point-of-sale actions, after all the competitors being back before their production in the market, a highly competitive situation, fight for shelf space, fight for small promotional offers that you make to your consumers. However, please, let's all not forget there is fixed retail prices in the Japanese market, i.e., one-off on prices, or buy two get one for free, all of that does not exist and is not allowed in the Japanese market.

Okay. That's helpful. Just one follow-up, then, on the Russia activities. I'm just curious if those -- obviously, it's a broad brand-building activity; but obviously, Marlboro has been quite weak there. So, is it targeting that brand? Is there anything you're doing with the Marlboro brand that you're doing explicitly that could help your performance in that market?

Yes. We are not happy, I have said that before, with the performance of Marlboro. It's just a 2% share of market, in a market that big and that important like Russia, is, of course, disappointing for Marlboro. And we definitely think that Marlboro can do more. That is -- again, that is a marketing challenge. It can't be that you have such little volumes for that brand in the markets. We will invest behind, we will build the brand equity, and we want to bring that brand also on a growth trajectory, as in so many other markets in the world -- in most markets in the world, actually.

Sure. Thank you. And just a last follow-up would be on Spain. In this quarter, you had, obviously, the ups and downs of pricing. And I'm just curious, so you had about a 10% decline roughly in the category volume in Spain in the quarter. Do you think that weakens a bit just due to the price realization that's now coming through in the fourth quarter? Is that, again, one that could look more like what we saw in Q1 and Q2, where that market was down pretty aggressively?

Yes, the Q3 market now -- might now be influenced a little bit here and there by retailers loading some competitor volumes ahead of their price increases. So, I think you best look at the year-to-date one; and the full-year estimate is, I don't know, 15%, 18%, something in that range. So, yes, it's a continued steep market decline, driven by the economic situation there. It will not continue at those rates forever. We will see -- we will have to wait now for a new government. We will have to wait for the measures, budgetary measures, that was mentioned in VAT, we will see, whatever the new government will want to do. The price skirmishes that we have had in the market, of course, have so far prevented us to reap the benefits of earlier price increases. Well, I said the skirmishes are over, so at least that benefit should accrue now.

Okay. Thanks for your time.

Erik Bloomquist, Berenberg Bank.

If we could circle back on the overall EEMA organic profit growth, that accelerated quite noticeably in Q3 -- 14%, 5% in Q2. How much of that is simply due to PMI slowing up its brand spendback? How much of that is just due to the market's very strong pricing and volume growth? And then, related to that, is PMI happy with where L&M is in the EEMA region, or is there still more work to do?

Well, if you -- I mean, if you look at the brands there, then -- and now we talk EEMA region as a whole, then in the third quarter, I see a Parliament growing 15.9%, I see a Marlboro growing 10.2%, and all our premium brands then together by 10.5%. That's pretty good, I would say. If I then look at L&M, which, yes, has left -- has had problems in Russia, but if you take L&M for the EEMA region, it's up 6.1%, and on a year-to-date basis, 3.8%. So, no, our portfolio is doing pretty well. The negatives, you have on [local heritage] brands. But the future, of course, and the profitability is not in the previously local-acquired brands, it's in our international brands in that part of the world. So, pretty happy about the overall performance of our portfolio, thanks to (inaudible).

Okay. Super, thank you. And then, following up in -- in more detail on the plain packaging situation in Australia, is it fair to expect that the Senate does pass both bills in November? And then, has PMI selected and started the formation of the arbitration tribunal at this point?

Well, the vote in the Senate hasn't taken place. We will see when it takes place, as the Health Minister herself has said, it might -- or it probably will lead to a delay in the implementation date. We are, of course, ramping up the legal cases that, as we've said, we will vigorously pursue all the avenue -- the bilateral investment treaty case, but also other avenues, domestic, and you name it. So, we are, of course, in full swing to be ready for this occasion.

Okay. And then, lastly, circling back on Turkey, it looked like from news reports that PMI took a basically TRY2.00 per pack price increases, more than you needed perhaps in low price, but not enough to pass it through in premium. On a portfolio basis, is PMI roughly whole? Or is there a negative impact from simply not being able to pass through all of the increase in the premium segment where PMI is very strong?

Well, I think I said earlier, if you have brands at the very lowest end of the market that have a rollover need of 70 -- TRY0.7 -- that is, it's TRY3.00 around at the premium end, then it's no longer a mathematical exercise. Then you have to protect your entire brand portfolio, which is what we did. But as I said earlier, I would still hope that there could be a second step in that story later, because the rational arguments are clearly on our side.

Super. Thank you.

Vivien Azer, Citigroup.

My first question has to do with the EEMA region and the favorable trade inventory shift that you saw in Saudi Arabia, and if you could offer some more color on that, please.

Well, Saudi Arabia is an important and very profitable market for us. A year or two years ago, we had some share problems there, and we are doing well. We have implemented a price increase in the otherwise very, very profitable Saudi Arabian market. So, that's really what it is.

Okay. Thank you. Just in thinking about FX -- and I fully appreciate that it's so hard to know kind of where currencies will go from here. But it might be helpful if you could just give us a reminder, please, from a transaction standpoint, where your biggest cross-rate exposures are.

Well, let me answer it that way. We have a huge basket of currencies that play into the overall results. This year, year to date, the currency that is bringing the biggest variance, positive variance, is the yen. Last year, on the total-year results, it actually was the Indonesian rupiah. I telling you in none of those years it was actually the euro, although the euro, of course, plays also a role. And then, you have emerging market currencies that are also of significance being the ruble, I said the Indonesian rupiah, the Turkish lira, the Mexican peso, these are all currencies that go into that basket. So, we have a broad basket of those worldwide currencies.

And the exposure to those currencies, it's equivalent on a translation versus a transaction basis? Or do you have an outside -- outsized, excuse me, exposure to one or a small group of them?

No, at the end of the day, as I said, we run the business on a constant currency basis. And you will not find us ever enter any speculative hedges, what I call income hedges. So, that's the way we run it -- no speculation, and run the business the same way, the proper way, if currency is in your favor or if it's temporarily against you.

Fair enough. My last question has to do with the health of the consumer in the EU. And I'm just curious, as you went through the quarter, did you see any trends that would reflect a deteriorating consumer confidence, accelerating tradedown, as you worked towards the end of the quarter, or anything like that?

No. Honestly, all the media coverage that we see these days on Europe, that doesn't have an impact on cigarette consumption. Even declining stock prices on the equity markets don't really change consumption. The steep increase in unemployment will change consumption; Spain was an example of that last year. My own forecast would be that I wouldn't see now Europe collapse. It's just a bit too much focus on the European problems at this point in time. It will shift to other parts of the world.

Fair enough. Thank you very much.

David Hayes, Nomura.

Just on Brazil -- and (inaudible) in Lat Am -- but I -- obviously there's going to be this tax change that was proposed in February. I was wondering whether you have any more details on that. And specifically, I guess whether the change in structure is in some way beneficial for your competitive position in that market? I seem to recall there could be a change there that potentially helps. And then, in Korea, obviously good share gains there, but I just wanted you to confirm that you are still pricing slightly below BHT and JT in that marketplace, I think pricing up earlier in the year.

And then, finally, for me, just on cost saves, obviously you made the point on the presentation that you are confidently exceeding the current plans of this year. I just wonder whether you can give us any indications on what plans might be for next year, in terms of whether -- more cost saving or similar levels of cost saving as you are achieving in 2011. Thank you.

Okay. Brazil first -- yes, sir, there is a new excise tax law there, which should provide a more level playing field over time. It's not immediately, it is phased in over time. And that system, then, would eliminate the -- I only can call it absurd difference in taxation linked to packaging if a cigarette is in a box or in a soft pack. So, yes, a level playing field is always something good for us, and beneficial and fair going forward.

Moving over to Korea, as I have said before, the real challenge in Korea also is to find a multi-year tax plan and tax structure plan in that market, and that actually prevails for us over short-term profitability considerations. And the third one on cost savings -- well, we have had a one-year target, because that keeps an organization focused. You see that the focus has paid off, as we expect. It's too early to say for next year, but, yes, there will be a target for next year as well. We will talk about that in February.

Okay, that's great. Thanks very much.

Ann Gurkin, Davenport.

I wanted to circle back on Russia a little bit, given the tough volume results in Russia. Is there a need to increase investment behind brands in Russia, or is there a change in the consumer behavior? Can you just address that a little more?

No. On our side, yes, we want to do more on our brands, because we simply think that we can do better. When you come to -- when we talk about overall volumes, that the Russian market has slightly declined last year at about 2%, I would say, for this year I would expect a little less than 2%. But there is, of course, the consequence also of the fairly frequent price increases that happen in the markets. So, in that sense, consumers have been forced to uptrade quite a bit, because prices over the last three years have come up quite a bit at the low end. This would be a combined average growth of the prices in the range of 25%.

Okay. And then, as we look into '12 and you've talked about this a little bit on the call, but is there a growing challenge from numerous excise tax increases in different markets? Is it more of a challenge than maybe expected at the beginning of '11, as we looked out to '12? Is there any kind of comment you can give to that?

Well, excise taxes are a challenge every year, they are the single most important factor playing into our business. We have had a year, 2009, with two surprises; '10 with five surprises; '11 with one; and now we have had recently one for Turkey, which will go into 2012. We have managed through those in the previous years, and I really think that we will be able to manage through 2012 as well. Bad news can always happen; however, thanks to our global footprint, we have always been able to balance the unexpected bad with unexpected good. So, I think that should be the case going forward, as well. That's simply the advantage of such a broad global footprint as we have it.

Great. Thank you. And congrats on a great quarter. Thank you, Hermann.

Karen Lamark, Federated Investors.

My questions have been asked. Thanks.

Chris Burritt, Bloomberg News.

By Bloomberg's measure of profitability, Philip Morris, I think, ranked second in the S&P 500. And I know this is kind of a broad question, but how do you keep that rolling? And what's the biggest challenge to that performance?

Well, the key -- the bigger picture here, and therefore, I mean going into the future -- well, then, let's talk what is the starting point here? The starting point for PMI at this point really is that we are having a blockbuster third quarter, and that we are guiding to an excellent year 2011, i.e., we are and will be entering 2012 with really strong business momentum. Our confidence is expressed in the recent 20% dividend increase. Now, going into 2012 on the key question there -- well, the first one we had, will the financial crisis trigger an economy crisis? We have had that on the call. We will see what the economies do in parts of the world. It's not going to be the same all over the world. But PMI is a Company that has been able to deliver in the good and in the bad times, and we have a portfolio to do that in the good and in the bad times because it covers all price points.

The second key question always is -- will governments make rational excise tax decisions? We believe yes, but hiccups can happen, Turkey will always happen, but net/net, we think we expect them to be manageable. The third one is probably really market sizes overall. I don't expect big changes in the trends there. I mentioned before that the EU declines are moderating, that in a big Russian market, I see only a slight decline. In the very big Indonesian market, we see strong growth. In the big Japan market, it will depend a bit on the tax.

Then the other point will be -- the fourth point probably is the pricing environment. Will the rational pricing environment continue? I believe yes, that -- and I believe that Spain was the exception to the rule. And contrary to other consumer product companies, prices in the cigarette industry, our prices usually stick, because governments around the world do not want to see cigarette prices coming down. The next point is that you have always to do your homework and keep your costs under control, which is what we are doing. I have elaborated on that.

Then we are a tremendous cash flow generator. We have generated over the first nine months of this year an average of $1 billion in free cash flow per month, $9 billion year to date. Our cash-flow generation capabilities are unchanged, and also our shareholder orientation is unchanged. So -- and the last point I mentioned it before on the question before, a global footprint always allows you to balance the bad with the good, because of a global scale. So, I think these are the ingredients that make up our business success. We are working hard, and we have been working hard to get where we are, and we will keep on working hard to deliver for our shareholders also in the future.

Thank you, Hermann, that's helpful.

At this time, we have no further questions. I would now like to turn the floor back over to Mr. Rolli for any closing remarks.

Thank you for joining us on today's call. If you have any follow-up questions, you can contact the Investor Relations team here in Lausanne. Thank you very much, and have a great day. Thank you.

Thank you. This concludes today's conference call. You may now disconnect.