菲利普莫里斯國際 (PM) 2013 Q3 法說會逐字稿

Good day and welcome to the Philip Morris International third-quarter 2013 earnings conference call.

(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 press release containing detailed information on our 2013 third-quarter results.

You may access the release on our website at www.PMI.com.

During our call we will be talking about results for the third-quarter 2013 and comparing them to the same period in 2012, unless otherwise stated.

References to 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 will find data tables showing 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 this presentation, which is also posted on our website.

Today's remarks contain forward-looking statements and projections of future results.

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

It is now my pleasure to introduce Jacek Olczak, our Chief Financial Officer.

Jacek?

Thank you, Nick, and welcome, ladies and gentlemen.

As anticipated, we achieved improved financial results in the third quarter compared to the first half of the year, despite the persistent severe macroeconomic challenges and the extraordinary impact on industry volume.

Adjusted diluted EPS excluding currency increased by 10.9% in the quarter.

A key driver of our performance has been the strength of our brand portfolio despite its strong premium skew in a weak economy.

We have strong market share momentum in the majority of our main markets, with the key exception of Japan and the Philippines, where the issues are known.

In the quarter, our market share increased in the EU, EEMA, and Latin America & Canada Regions, while the international share of Marlborough, excluding China and the Philippines, increased to 9.3%.

Our quarterly share in Asia was impacted by the timing of our shipments in Pakistan as well as the share losses in the Philippines.

On a year-to-date September basis our international share, excluding China and the Philippines, is stable at 26.7%.

The second key driver has been pricing.

During the third quarter we achieved a pricing variance of $488 million, bringing our total pricing variance for 2013 to over $1.5 billion.

This compares favorably to the $1.3 billion achieved during the same period in 2012, and significantly more than offset the $900 million in unfavorable volume mix.

In addition to the substantial amounts of pricing taken at the beginning of the year, we have increased prices in a number of markets since May.

These include Argentina, Australia, France, Germany, Indonesia, Kazakhstan, Russia, Spain, and Ukraine.

Strong pricing, coupled with the timing of a certain cost items, enabled us to increase our adjusted OCI margin, ex-currency, between the first half and the third quarter of this year from 45.2% to 47.5% behind a strong expansion in the EU, EEMA, and Latin America & Canada Regions.

We anticipate a strong fourth quarter.

The adjustment to our reported diluted 2013 earnings per share guidance today reflects the impact of changes in exchange rates, an estimated fourth-quarter charge for restructuring, and a cautious outlook regarding certain markets.

In July, we forecast a reported diluted EPS guidance for 2013 of $5.43 to $5.53.

Today's guidance includes an additional $0.02 in unfavorable currency at prevailing exchange rates, for a total of $0.33 per share for the full year.

It also includes approximately $0.03 per share for a fourth-quarter charge related to the restructuring program that we announced at the end of last month, and the $0.01 charge related to the American Taxpayer Relief Act of 2012, which we reported in the first quarter of 2013.

Our reported diluted EPS guidance for 2013 is now $5.35 to $5.40.

Excluding currency and the aforementioned charges, this represents a growth rate of approximately 10% compared to our adjusted diluted EPS of $5.22 in 2012.

Let me now review a number of our key geographies, starting with the EU Region.

While unemployment continued to rise throughout 2012 in the 28 EU member states, it has remained stable this year at an average rate of 10.9%.

However, unemployment has continued to increase notably in France and Italy.

Despite the continued weak macroeconomic environment, the rate of decline in cigarette industry volume has gradually moderated throughout the year.

After a decline of 10.6% and 8%, respectively, in the first and second quarters, cigarette industry volume in the EU Region declined by 5.4% in the third quarter, helped by the reduction in the excise tax differential between cigarettes and finecut in several Southern European countries and stabilization in the prevalence of illicit trade, albeit at a high level.

For the full year, we are still expecting total cigarette industry volume to be down between 7% and 8%, well finecut industry volume should be up slightly.

Going forward, we expect market declines to remain above historical levels until European governments successfully tackle the issue of unemployment and illicit trade, and consumer sentiment and purchasing power improve.

Our business fundamentals remain strong across the EU Region.

We have gained share so far this year in all of the six largest cigarette markets in the region, namely France, Germany, Italy, Poland, Spain, and the UK.

In addition, we have successfully leveraged our cigarette brands in the finecut category, gaining 1 share point year-to-date September on a regional basis to reach 14.4%.

While our OCI, excluding currency, remains below last year's level for September, it increased by 5.4% in the third quarter and we expect an improvement in profitability in the fourth quarter.

Our four key brands -- Marlboro, L&M, Chesterfield, and Philip Morris -- continue to perform well.

They all gained cigarette market share in the EU Region in the third quarter.

During the quarter, the share of Marlboro was higher notably in Belgium, France, Greece, Italy, the Netherlands, Poland and Spain, a remarkable result in view of the economy, while L&M was the fastest-growing brand in the region as a whole in terms of market share.

I will complete my overview of the EU Region with an update on the status of the Tobacco Products Directive.

The European Parliament debated the proposal last week and accepted several amendments.

The Parliament notably agreed to a 65% health warning rather than the proposed 75%; that flavored cigarettes, including menthol variants, should be prohibited after a transition period of five years following the transposition of the TPD; that slim cigarettes should continue to be allowed; and that e-cigarettes would not be treated as medical devices but rather be more strictly regulated under the TPD, with higher nicotine thresholds than originally foreseen.

We welcome these marginal improvements, but regret that the European Parliament voted to ban an entire segment of the legal market despite the inevitable increase in illicit trade that this will fuel.

They have failed to provide a comprehensive framework for reduced harm products and have continued to include oversized health warnings without any apparent concern for property rights that the EU charter protects and restrictions on pack formats.

Finally, the proposal still contains an unworkable and discriminatory anti-illicit trade solution, which adds complexity to the legitimate supply chain without addressing the core problem.

The next step is for the European Parliament, the Council of Ministers, and the European Commission to reach a final consensus.

While the timing remains uncertain, the TPD is expected to be adopted before the end of this year or during the first quarter of 2014.

There will then be a period of 18 to 24 months for the directive to be transposed into national legislation at the member state level so that it may become effective across the EU by the end of 2015.

Let me now turn to the to key EEMA markets, starting with Russia.

We implemented an additional price increase of RUB4 per pack during the June/July period on most of our brands, thus enhancing unit margins.

Due to the higher prices, a deteriorating economic environment, and the implementation in June of workplace smoking restrictions, there was an acceleration in the rate of cigarette industry volume decline in the third quarter to an estimated 9%, mainly impacted the super-low segment.

For the full year, we expect industry volume to be down by about 7% to 8%.

Our market share performance continues to be resilient, in spite of competitors again lagging our price increases this year.

Our August year-to-date market share was 26.1%, down by 0.1 share point, with Parliament in particular performing very well in the above-premium price segment.

Despite the lower volume, our strong pricing enabled us to increase our profitability, ex-currency, at a double-digit rate in the third quarter.

In September, the Russian Duma approved the excise tax rates on cigarettes for the period 2014 through 2016.

In line with expectations, the ad valorem rate will increase from 8% to 8.5% next January, while the specific excise tax will increase from RUB550 to RUB800 per 1,000 cigarettes.

The pass-on for Marlboro would be around RUB8 per pack, or approximately 11%.

The increase in the specific excise tax is 45% in 2014, while the increases in 2015 and 2016 are slated to be 20% to 25%.

In Turkey, cigarette industry volume declined by an estimated 5% in the third quarter.

Illicit trade declined only marginally from the second quarter.

For the full year, we are forecasting an industry volume decline of around 7% to 8%.

Our business fundamentals remain strong, with sequential volume improvement.

Our market share was up by 0.1 point in the quarter through August to 46.1%, with further gains from premium Parliament and a mid-price Muratti.

Both Lark and L&M suffered some share erosions at the TRY6.50 per pack price due to the rapid emergency of a TRY6 and below per-pack segment.

This was partly offset by our successful launch of Chesterfield at TRY6.

The brand achieved a 1.2% market share in August, just three months after its introduction.

Finally, Asia, where I will start with the Philippines.

Tax-paid industry volume in the third quarter declined at a rate of 6.7% to 23 billion units.

This is in line with the second-quarter trend and a significant improvement over the first-quarter decline rate of nearly 40%.

However, Nielsen consumer off-take, adult smoking incidence, and adult daily consumption data indicate that cigarette consumption is essentially stable, while down-trading has been significant.

The difference can be explained by the huge under-declaration by our main local competitor.

While it increased its tax-declared volume from an average of 500 million units per month in the first quarter to 1.1 billion units in the second quarter and 1.4 billion units in August, we estimate that this represented less than half of the volume it sold during this period.

The retail price of its main brand, Mighty, has remained at PHP1 per cigarette.

This is an economically unsustainable level when paying full taxes.

We continue to work with the Bureau of Internal Revenue, the Bureau of Customs and other government authorities to address this issue.

During the third quarter, we started to reduce our pricing support behind Fortune and especially our lowest-priced brands.

As a result, our monthly volume declined and our share of the tax-paid market dropped from 82.5% in the second quarter to 77.2% in the third quarter.

We will continue to tactically balance the volume and profitability equation.

But until the authorities address the issue decisively, the Philippines will remain a significant challenge.

Let me now turn to Japan, where cigarette industry volume was down by just over 1% in the third quarter and remains on track to decline by about 2% for the full year.

We have two key objectives in Japan -- to reinforce our leadership in the growing menthol segment and to improve our performance in the larger non-menthol segment.

To address the latter, we launched a new smoother tasting Marlboro Clear in three variants in September.

This was to widen the appeal of the brand to mainstream non-menthol adult smokers and improve Marlboro's relatively small 6.2% share of this segment, which still accounted for 73.7% of the total market year-to-date September.

Our market share decreased by 1 point in the third quarter to 26.5%, reflecting the impact of competitors' launches in the second quarter on Marlboro's menthol segment share and continued out-switching from the more traditional Lark and Philip Morris non-menthol variants.

Marlboro's market share of 12.2% was, however, in line with the previous quarter, helped by the launch of Marlboro Clear.

This new initiative and our pipeline of consumer-relevant innovative offers should enable us to gradually stabilize our market share in Japan.

Our optimism is backed by the gradual reduction in the quarter-to-quarter share declined during the year and positive preliminary adult consumer off-take data for September.

Earlier this month, the Japanese government confirmed its intention to raise the consumption tax from 5% to % 8% next April.

The pass-on for Marlboro would be about JPY14 per pack.

But keep in mind that any price increase in Japan requires approval from the Ministry of Finance.

Let me now turn to Indonesia where the economic slowdown and the increase in the cost of basic food and fuel impacted the cigarette industry, which grew by just 0.3% during the third quarter.

As a result, we are now expecting full-year industry volume growth to be about 2%.

The pressure of consumer purchasing power has been most acute among the lower income strata, resulting in a 7.6% quarterly decline in cigarette volume in the low-price segment, while the premium and mid-price segments, where PMI is strongest, grew by 3.5% and 1.4%, respectively.

This development, along with the growing adult consumers' preference for machine-made kreteks, has enabled us to continue to grow share.

Sampoerna A and U Mild gained 0.6 points and 0.9 points, respectively, in the quarter.

In addition, Marlboro has strong momentum.

It gained 0.5 point to reach a quarterly share of 5.4%.

Meanwhile, Dji Sam Soe has lost share since it became the first major brand to move above the IDR1 per stick price point, ahead of competitive brands.

We have continue to increase prices on a regular basis and have now fully offset the impact of the January excise tax increase as well as higher clove costs.

Effective October 1, the government enacted an amended regulation that addresses the loophole whereby large manufacturers could spread their production volume across sister companies and benefit from lower excise tax rates.

This will affect around 2% of our volume, while the impact will be much more significant for several of our competitors.

We await the government's decision as to whether the regular annual excise tax increase will be eliminated in 2014, or at least moderated, to take into account the anticipated imposition of a new regional tax of 10%.

Let me also say a few words about the exciting business development projects that we have recently completed.

The purchase of the remaining 20% interest in our Mexican affiliate for $703 million closed in the third quarter.

This is a profitable 34 billion unit cigarette market in which we achieved a 72.8% to market share through September of this year.

Marlboro had a 51.7% share over the same period, one of the highest in the world.

The acquisition is projected to be marginally accretive as of the fourth quarter this year.

The second deal that closed during the third quarter was the acquisition of a 49% stake in Arab Investors-TA for a $625 million.

Algeria is a profitable 30 billion unit cigarette market in which we achieved an estimated 40% share this year through September, driven by Marlboro.

This investment significantly enhances our prospects in this important North African market.

The agreement also opens the door to additional business opportunities in certain other North African and Middle Eastern markets, such as Egypt.

The acquisition is projected to be accretive as of 2014.

Our free cash flow was up by 45.5% to, excluding currency, in the third quarter, due mainly to a reduction in working capital and higher net earnings.

In September this year, our Board approved a 10.6% increase in our quarterly dividend, which now stands at $3.76 per share on an annualized basis.

It has more than doubled since $1.84 rate at the time of the spin.

Our target dividend payout ratio remains 65%.

This reflects our strong confidence in our business fundamentals and future prospects.

Our dividend yield is currently around 4.4%.

We spent a further $1.5 billion on share repurchases in the third quarter and expect a similar level of expenditures in the fourth quarter.

By year end, we will have spent about half of the $18 billion three-year program that was authorized by the Board in August 2012.

Since the spin through this September, we have repurchased 539 million shares representing approximately 26% of our shares outstanding at that time, at an average price of $60.02 per share.

During this time we have been able to sustain our very solid balance sheet and remain committed to maintain our single-A credit rating.

In conclusion, our business fundamentals are solid and our commitment to reward our shareholders remains steadfast.

Despite persistently different called difficult macroeconomic conditions, our third-quarter results were in line with our expectations and we anticipate a strong fourth quarter.

We have updated our guidance to reflect prevailing exchange rates and the fourth-quarter restructuring charge, as well as a cautious outlook regarding certain markets.

Our 2013 reported diluted EPS guidance is $5.35 to $5.40 and represents a full-year growth rate of approximately 10%, excluding currency and charges, compared to our 2012 adjusted diluted EPS of $5.22.

Thank you.

I will now be happy to answer your questions.

(Operator Instructions) Judy Hong, Goldman Sachs.

Thanks.

Good morning.

So, Jacek, I guess first question is just looking at the Asia Region.

I think at the corporate level the pricing variance was very strong; but within Asia I think sequentially the pricing variance actually decelerated.

So I am wondering if you can just give us some perspective -- how much pricing you have taken in Indonesia, what was the timing of that, and then how much of that was offset by the Philippine lowering of the price?

And how we should think about that in the fourth quarter -- is this something that will continue to drag down the fourth quarter?

Or is the timing of the Indonesian pricing such that pricing actually accelerates in the fourth quarter?

And does that help your margins in Asia?

Maybe I'll just start with the margins in Asia to give you some color.

Asia, if I exclude Philippines, Asia margin for the quarter essentially would be flat.

The Philippines is driving the margin performance in Asia in the quarter.

Pricing-wise, Indonesia is going as per plan.

As you know we have regular -- pretty often I should say -- price increases there.

And as we said on the second-quarter call, around this time of the year we should offset the pressure from -- offset the impact of excise tax and clove prices.

So Indonesia now is in a positive territory when it comes to margin improvement.

It should remain like this for the remaining fourth quarter.

One thing which we have to remember which we don't have in Asia is the lack of pricing in Japan.

Right?

So that is something which just appears from time to time.

Okay.

Then just following up on Indonesia, can you just give us your thoughts on the likelihood of the new excise tax going in, in Indonesia next year?

And then just in light of the magnitude of the potential excise tax increase if all of that goes through next year, how you are thinking about the volume outlook as we go into 2014 and your ability to pass on the pricing in Indonesia.

Well, the pricing, Indonesia remains strong for this year and the previous year, so despite the tax increases and also the pressure on the input costs.

So I don't see today anything on the horizon which would put a question mark on our ability to price in Indonesia.

The pricing remains strong in Indonesia.

What we know at this stage is that there will be a local tax of 10% increase to the current rate.

And the question is whether the national government would like to put something on the top of that and in what [marking it is].

I think at this stage I think it is more of the speculation.

We will know for sure what is the tax for Indonesia by the end of November.

That's it on the pricing in Indonesia.

Okay.

My last question, Jacek, just looking at the volume decline obviously in EEMA and Russia, Ukraine.

First, in terms of the outlook for those markets, you have given the rest of this year; but is this illicit trade situation really a problem that you think will continue to impact as we get into 2014?

And then I think there has been some chatter about the government potentially looking at reversing the excise tax increases, or their plans to reverse the excise tax increases in Russia given the illicit trade ramp-up.

So I am just wondering if you have any thoughts on that prospect.

In relative terms, there is more of the issue of illicit trade in Ukraine than in Russia.

In Russia we start observing some incidence, I think of about 3% as of second quarter in Russia.

I think it stays about that level.

Actual I think very recently Prime Minister Medvedev gave that interview in which he hint that maybe they should look into the tax rate [global], the tax rate in the three-year plan.

For the time being what we know is that the tax will -- the specific component and a little bit of ad valorem will go up in January next year.

It will create a pass-on or force the pass-on on Marlboro of, I think, about RUB8.

And then if you follow the three-year plan, i.e., remaining two years, the pass-on should be RUB5 and RUB8.

So RUB5 in 2015 and the RUB8 in 2016.

For me it is not -- maybe it's pretty much speculation today, but I think they more referred to the tax increase in the last year of the three-year plan than on the third year of the plan.

They are also watching -- and it is very welcome by us.

I mean Russian government started watching how they price as compared to the surrounding countries, which we know also plays a factor in an incentive, if you like, to illicit trade.

So as long as the Russian government is on alert and they try to think proactively, we would very much welcome this development.

Okay, got it.

Thank you.

David Adelman, Morgan Stanley.

Hi, Jacek.

Couple of questions.

First of all, Jacek, what is the prospect that in trying to manage the business in what is clearly a difficult macro and difficult volume environment, that you feel that in retrospect -- six months from now, nine months from now -- that you haven't done either sufficient marketing in certain of the markets or that maybe you in retrospect will have pushed pricing a bit too hard?

No.

My spend behind the brands is -- I mean for the total year my spend will be above the last year's level.

I know that we have some comps, there's various comps issues this year, quarters on quarters.

But for the full year we actually will invest more than the last year.

And as you see also from our brand portfolio perspective, the brands wouldn't grow market share if there would be lacking any investments.

I think we are doing the right job.

It's the deployment, it's the commercial organization, the number of innovations which we are bringing behind the Marlboro and all of our brands, I think that -- brand portfolio in terms of the equity, the health of the brands, I think it might be the strongest year we ever had since the spin of how the portfolio performs.

Now you mentioned the macros which we had.

They are macros in countries; they are not macros on a global basis.

So we need to start looking into this a little bit more selectively.

Because yes, there is a bit of accelerations in Russian for the known reasons.

Yet we have a big challenge in the -- major challenge in Philippines.

But we also have a market, frankly speaking, where the total industry volumes are growing and there is up-trading.

So I would be very careful how we talk about that thing.

The macro does not necessarily mean global.

Okay.

Second question, Jacek, presumably your budgeting is not done for next year.

You don't know all of the excise tax increases that you would necessarily face.

I'm not asking for a specific prediction, but broadly speaking what is your confidence level today looking out to next year that the Company can deliver financial results that are consistent with the mid- to long-term plans that you have?

David, it is pretty challenging this year, as many have noticed.

And we still have -- with our guidance today, we said that we are going to deliver approximately 10% growth.

We had a number of challenges this year.

Some of them may fade out, some of those may continue next year.

I think when I feel strong, when I feel confident is that number of quarters which we demonstrated that our brands are very strong, including Marlboro, despite adverse macroeconomic in some countries, especially European Union.

Pricing power, you have seen our pricing power for the first three quarters of this year.

It's $1.5 billion.

That is very strong and that remains, and I don't see anything on the horizon which could challenge this one.

I think the tax structures are playing into our hand.

And frankly speaking at this stage, we are not aware and we don't feel that there is any attempt to have a disruptive tax increase in the near future.

So there are a number of factors which plays into our hand.

Total market (technical difficulty) driven by various factors in some geographies may continue through the 2014.

This we will have to see.

You noticed that EU is getting sequentially better and better, but I don't see underlying data which would give me more optimism.

I am referring to unemployment, right?

Because unemployment is flat like a pancake since January this year, although the industry volume development is encouraging.

But I think I need another quarter or so and then we will be more confident to say more firmly how do we expect our performance 2014 or beyond.

Okay.

Thank you very much.

Vivien Azer, Citi.

Hi, good morning.

I wanted to touch on price elasticities globally, given some of the guide downs that you have seen across some of your major markets; and Indonesia really comes to mind.

I am curious.

I appreciate that inflation is becoming a bigger and bigger issue, but have you noticed a deterioration in your price elasticities as well?

No, I think on a global basis the elasticities are between a minus 0.3 to minus 0.5.

In some countries you will see the higher elasticities, but they are driven by the fact that the consumers' disposable income is on the negative side, right?

So in real terms our price increases may trigger the higher elasticities.

I think Italy, Spain, a couple of the Southern European countries, they are today in a heightened elasticity level, but just because there was an erosion on the disposable income.

Indonesia, as you referred to, I don't think we have -- the elasticities would be fairly in the range which I gave at the beginning.

So for Indonesia, it is the third guide down in terms of your outlook for volume growth in that market in roughly four months.

So in your mind, then, it is strictly that inflation has just gotten that much worse that quickly?

I think you have a different -- what is inflation, the [petrol] inflation and the food inflation.

And I think the food inflation impacts more in relative terms some of the consumer groups; therefore, we see the volumes in the lower part of the market actually declining and the volumes in the mid and the premium segment going up to make the total market growing.

So I think you will have a different elasticity.

Depends again on the disposable income of consumer.

I think the underlying rate for Indonesia, the growth rate for Indonesia must be somewhere in the range of a 2%, maybe above a 2%.

This you will have it from the demographics and some positive GDP per capita to develop.

Okay.

Thank you very much.

Chris Growe, Stifel Nicolas.

Hi, good morning, Jacek.

So just I have a couple questions for you.

I wanted to ask first about the Philippines.

It sounds like there has been some sequential improvement in tax collection there.

You gave some numbers around that, which is great; so if you have any color on that and basically what is going on at the low end of the market.

My follow-on question to that would be the tax increase goes -- there is a tax increase in the Philippines next year as well.

It is more heavily focused on the low end.

Is it going to take something like that to help move those low-end prices up?

Or is there enough the government can do in the short run to get more tax collection among these low-priced brands?

Well, yes, that is true that there was an increased sequential tax collection.

But you know the issue in the Philippines is not about the collecting more taxes but collecting the right amount of taxes.

So you know that somebody is paying more but is still under-declaring, frankly speaking, of a little [help].

So the same sort of tax evasion or cheating or whatever is appropriate word for the situation.

Now there is a tax increase next year.

I think partially also why we are now moving with the prices up is to -- when we are sitting at the lower prices at the bottom of the market and waiting for the government to take actions there, the government was immuned by the fact that I was paying taxes on a lower-priced portfolio where my competitor was not paying.

So I think that partially us going with the prices are bringing the government into the play, because somebody is going to also suffer by not collecting taxes.

So we see how does this unfold.

The Philippines remains challenging.

But situations may change in the Philippines if government is really decisive and if law enforcement, tax enforcement authorities are decisive; they can fix the problem in a month.

Yes.

Okay.

But we have to wait for that one.

Okay.

I had just one more question for you, just sort of a broad question for you.

You had a set of investments in several key markets that started last year; you have now lapped a lot of those investments.

I guess, as we see softer volumes, is that an indication that the investments weren't enough?

That maybe you need to invest some more?

I'm just trying to look ahead and think about what you can do to help stem some of the declines in volume.

Is it something you can do from an investment standpoint, or is more about the total market decline?

I would say the softening of my market share, as the market share declines, I think would be indicators for me that I am underinvested with regards to the support.

My investment -- marketing, sales investment, etc.

-- I cannot mitigate the impact of the total market declines, especially that in some countries I am competing with illicit products.

So that is not a function of the marketing investment to offset that.

As I said to the earlier question, I think this year we are going to spend more than last year, as different phasing in the quarters.

But the market share advancement of all of our brands or most of our brands, including Marlboro, in a number of the geographies, I mean just is the best testimony that we are doing the right things and we are supporting the brands in the right way.

Okay.

Thank you for your answers there.

Bonnie Herzog, Wells Fargo.

Good morning.

I guess I am still trying to understand how realistic your 10% EPS guidance is, given what this implies for volume growth in Q4.

In other words, I think your volume growth needs to be positive in the quarter with pretty strong pricing to get close to your revised 10% EPS guidance.

So how realistic is it for you to generate positive volume growth?

And then I guess what gives you the confidence that this is achievable?

Well, my total volume outlook for this year, the total PMI volume outlook for this year is about in a range which we have now for the nine months; so I think it is about 3%, ex-Philippines.

That is about our volume outlook.

Pricing will continue.

As you see, quarter after quarter we are delivering strong pricing.

There were some prices which were -- some places we'll implement the pricing in the third quarter so I will have a full benefit in the fourth quarter.

Plus, as we said earlier at the Q2 call, we will have some better comps on the cost side.

So I feel very confident that we will deliver the fourth quarter, although we are fully aware that the fourth quarter growth rate will be significantly higher than what we had demonstrated in the third quarter.

But this is all going as per plan.

As you remember, our story from the beginning of the year was that we will have a low start of the year; and in the second part of the year, third and the fourth quarter, this is where we expect to deliver the growth for the full year.

So everything is falling in line relative to your expectations.

Yes.

Okay.

Then I guess just my final question, Jacek, is the EU Directive decided not to ban e-cigs as medicine.

So I am curious.

How does this change your thinking on the category and your timing for entering, if at all?

Well, you know our plan, right?

That we said that we are working on three different platforms and we showed that we aim at 2016, 2017 for the full commercialization.

I think we stay on track with this one.

The Directive -- what we are missing in the Directive is a little bit more time spent by the legislature in trying to figure out what the framework legislation should be for admitting new products, being e-cigarettes or other new-generation products, modified-risk tobacco products into the market.

A lot of focus was spent on some other elements which I don't think addressing really the public health concerns which the Directive was supposed to address.

And the whole novel product, the [little results] not fully addressed.

But yes, it is a good development that e-cigarettes will be in the Tobacco Products Directive rather than under the pharma legislation.

We will see.

And for obvious reasons I can't talk where we would enter the market and how we could accelerate our entrance to the market.

But you know we are very excited about this category, working on our plan.

And we are making progress in accordance with the critical path, delivering the critical status, researching the consumers and organizing our -- or building our capacity to be on time or, if everything goes okay, maybe ahead of time with the products to the market.

Okay.

That's helpful.

Thank you.

Jon Leinster, UBS.

Morning, gentlemen.

I've got a few questions, actually.

On Indonesia, the market volume growth of 2% for the full year seems to imply 3% to 4% in the last quarter.

Is there any reason that the Indonesian volumes should improve quite rapidly in the fourth quarter after a relatively weak third quarter?

Secondly, Italy was quite a major market, volumes down 4% in the third quarter; a significant improvement on what we have seen in the past.

Is there some particular factor behind that?

And do you expect that to be sustained?

With the recent VAT increase is that likely to deteriorate again?

Okay, I'll maybe start with Italy.

Italy, yes, it has had some improvements in the decline rate of the total industry volumes.

I think what we observed also in Italy is a little bit less of illicit product, and I think this also partially must have contributed to the better results in the quarter.

We will have to see how that thing -- how the lower incidence of illicit product versus the beginning of the year, as you remember, I think they had a spike to 11%, this lower illicit incidence, how long it is going to stay.

So that may support the volumes.

The VAT increase is another sort of government trying to impose some extra taxes and hoping for the better consumption.

So that a little bit is not very welcome, but let's see how does it unfold in Italy.

In Indonesia I think there is some seasonality also behind the quarters.

And I think this is what drive us to believe that we will have -- that Indonesia will deliver on about 2% for the full year.

And we are aware that this calls for the better or stronger volume performance in the fourth quarter of this year.

Thanks.

Secondly, just going back to the Philippines, so you lowered prices; I am just trying to get the timeline right.

So you lowered prices in Q2, and then what sort of period in Q3 did you actually increase them again?

We lowered prices -- actually we start lowering the prices at the end of Q1.

We were in full fledge in Q2.

And I think towards the end of Q3 we start moving prices up.

So does that mean the end of Q3 you started raising them?

So in fact the price reductions really didn't help at all in terms of market share.

There was the down-trading.

Yes, yes.

Okay.

Thank you very much.

Thilo Wrede, Jefferies.

I saw that German courts have banned the use of the Don't Be a Maybe campaign in Germany.

How does it impact your business?

They banned some executional aspects of that campaign.

We are now considering other available to us legal remedies how we are going to go forward, because we are pretty confident that we have not violated any local legislation.

I don't think -- the other forms of the marketing or support to the brand which we can continue delivering there, because they are just questioning some aspects of that campaign, so I don't think we will have a -- we should have any negative impact of a suspension of this executional element of this campaign.

Any concerns that other European courts will pick up the same line of argument?

Well, Germany is one of the few, if not the only one country in the EU, which still allows you billboard campaigns, right?

So they were questioning the billboards and some, I think, cinema commercials.

Most of the other European countries, the campaign is being delivered to consumers more for the 1-to-1 and other means.

So, no, I don't think it will have any repercussion in the remaining European countries.

Okay.

Then I have also seen reports out of Australia that convenience stores are now reporting an increase in illicit trade after the plain packaging and all that went into effect at the beginning of the year.

Are you seeing the same thing?

We are seeing the same thing.

I don't have hard data, but early informations which were received from our affiliates in Australia indicated illicit trade has about doubled versus what it used to be before the implementation of plain pack.

So there is something on the illicit trade, but I am not extremely surprised by this, because we thought that the plane pack might facilitate the illicit trade.

So unfortunately, this is happening.

Do you think that the fact that the data is now starting to come out makes legal challenges easier?

What?

Sorry, the data I think on the illicit trade will come out soon.

Once this data is out, confirmed.

There are speculations; when it comes to our claim under the BIT, and BIT in Hong Kong, we are progressing there as per the calendar.

But yes, certain of elements which we have been raising with the government before -- that the plain packaging is not addressing consumption, frankly speaking.

If you look at the total volume developments in Australia, you don't see any declines in the total volumes.

Yes, you have the heightened appearance of the illicit trade.

And I think also you might say that you see some acceleration in the down-trading.

But this is all as we were saying; this will be the impact of the plain packaging.

Okay.

Thanks a lot, Jacek.

Michael Lavery, CLSA.

Hello.

Just back on Indonesia for a second, obviously the inflationary pressures are some of what is slowing category growth.

But it also was the easiest comp of the year in the third quarter.

What did it look like sequentially?

Was there improvement coming out of the quarter?

I guess I want to understand a little better where the strength would come in 4Q, because that was one of the toughest comps last year as well.

Well, usually I think the fourth quarter in Indonesia was the strong quarter.

So that is what I was referring, that there is some seasonality impact, etc., which you have in Indonesia.

So therefore, yes we expect a stronger quarter this year.

As I said earlier, I don't think the growth rate of the industry in the third quarter is the underlying growth rate of the industry.

I think the underlying growth rate is closer to 2%, above 2%.

So yes, you will have the fluctuations between the quarters.

No, I understand that.

I guess but the two things I am trying to get at is if there is seasonality, but it is a stronger growth rate in the fourth quarter, does that get more and more exaggerated every year?

And then just back to the third quarter, can you -- do you have any visibility on what the progression was throughout the quarter?

Was it, say, down in July and then flat in August and up whatever percent in September?

That you can see the consumer adjusting to the inflation pressure?

That some of that momentum should continue into 4Q?

Well, the consumers are adjusting to the inflation pressure.

As I just said earlier you have a different rate -- sorry, different impact by consumer income classes, okay?

So if you have a second -- I think it was a second spike in food inflation this year.

One was at the beginning of the year; one was in the current quarter.

Well, this has an impact on the consumption levels in the lower-priced classes, presumably more of the daily consumption, the smoking incidence.

But this is what we observed.

So there will be adjustments in the consumer pattern.

So that is on the volume side.

This was all happening.

Okay.

Then just on Japan for a moment, you reminded us that the Ministry of Finance needs to approve any of the price increases, which is of course true.

Are you worried about getting that approval at all?

Or was that just stating that to highlight the procedures involved?

The rule in Japan is if you want to change the prices you have to seek the approval of the Ministry of Finance.

That is going to stay.

Also some prime minister and others have publicly -- I think before when the discussion was about the sales tax, they had been talking about the fact that they wouldn't like necessarily to spike inflation while having the sales tax increase.

But we will have to see.

We have not filed for the tax -- excuse me, for the price registrations in Japan and there is still a time before the sales tax is implemented.

Okay, thanks.

Then I just want to make sure I have one clarification.

Earlier in the call I believe you said you expect profitability improvement in 4Q.

Was that versus 3Q 2013 or versus 4Q 2012?

I was referring to the growth rate of the EPS ex-currency in the fourth quarter over fourth quarter.

Okay.

Okay.

Then just lastly, following up on e-cigarettes, I understand you have your next-generation products that you are developing and the EU TPD doesn't really directly involve any of that, I don't believe.

But just in terms of e-cigarettes and then having what seems like maybe a little bit more of a regulatory green light, at what point do you consider that a threat enough, if those keep growing, that you would want to maybe get involved in something on an earlier timeline than your NGPs with something like an e-cigarette?

Is that a launch you would consider?

Obviously you have got the US market where the Big Three are getting involved and Lorillard is coming to the UK.

Do you think that is a place that you want to play?

Or are you content to just wait for the next-generation products that you have coming?

I said we are very closely watching the developments in the category.

I think between the reasons why we said earlier that we are working on the three platforms and one of the platforms is essentially in the territory of e-cigarette, is that we believe there is and there will be a market for all three platforms.

The question still remains -- and if you look at the performance of e-cigarettes category -- a lot of attention is more on the marketing side and, at least to our knowledge, less attention is on the product side.

So I think what is extremely important is, in our element of strategy, to get the product right.

So, I don't think it's -- I've said it on a number of locations.

It is not that you need to be first to the market, you need to go to the market with the right products.

Okay.

Thank you very much.

Erik Bloomquist, Berenberg.

Hello.

I was hoping you could comment on Russia in particular and why the premium shipment volume was down so severely in the third quarter, with Marlboro in particular down 17%.

That seems a bit at odds with what has been a relatively stable to rising trend for the mid- to higher-priced segments.

So I was wondering if something had been going on there that would explain that as an aberration.

Or is that something we should be considering as something that could have some continuing effects?

This is a difference between our shipments to the distributor versus what is happening in the market.

So on some things we have the timing issues.

Now, if you look at the total market size in Russia, maybe to give you more color on this one, the market was down about 7.9% if I remember correctly for the quarter.

And if you look at the composition of that decline, about up to 17% of the decline came from the low-priced segment.

With the value and above -- so value, mid, and premium segment, they declined by a little bit, by less than a 3.5%, 3.3%.

So you can see that the upper segments in Russia are doing relatively well despite the fact that there are price increases.

And the lower segment has been more -- is under more pressure.

But again I think it is the same explanations as I used for Indonesia.

The different consumer groups are impacted differently by the price increases.

Ryan Oksenhendler, Bank of America.

Hey, good morning, Jacek.

I just had a question regarding Japan, in terms of the pricing that you would consider taking.

Have you thought about, I guess, which brands may get which level of pricing?

I think you mentioned that it is JPY14 per pack, but I think you want to probably increase it in JPY10 increments.

So, how much of it -- is there a focus on maybe your price gaps versus Mevius?

And which brands will get what level of pricing?

Well, we haven't yet decided on our pricing strategy, and I think it wouldn't be appropriate for me to comment further on this at this time.

Okay.

Then just regarding the illicit trade that you are seeing in certain countries, like Turkey you said it's still pretty bad, maybe got a little better sequentially.

Ukraine and Russia are still also pretty bad.

Does it have to get worse, maybe, before the government really steps in there and it actually starts to get better?

Actually I mentioned earlier I think that Prime Minister Medvedev, referring also to some incidence, higher incidence of illicit product, tobacco illicit product and I think alcohol, and that the government is considering now an option how to tackle the problem at early stages -- is very welcome.

I wish many other governments would act so prominently when the problem is small rather than let the problem to grow to almost in some places difficult-to-manage levels.

Ukraine is a little bit different story.

Ukraine is also the story of the counterfeit products, not only illicit product.

So every country has its own sort of the background in that.

Turkey, sequentially there was a slight improvement.

We know from the past that the Turkish government was highly very decisive and could act very promptly to address that issue.

I wish they can repeat more of the same soon.

So let's wait.

Okay.

Thanks for that.

Then just my last question.

Is it possible maybe to get some insight in terms of what the FX impact would be, overflow into fiscal 2014?

Especially I think you are lapping some yen hedges as well.

So can you maybe give us some magnitude of what you see in fiscal 2014?

Well, some of this -- well, everything depends what is going to happen with the US dollar, right?

So there is a lot of surprises also coming from the US side.

But I think the yen may stay.

Remember that we have hedged quite a portion of the yen exposure for this year earlier; so some of the pressure from yen for us in terms of the effective exchange rates may continue to next year.

It depends where the yen is going to [lap].

But our issue is when we revised the forecast now, guidance now, it's essentially not because of the yen.

It is very much because of developing countries' currencies.

I think Indonesian rupiah was the biggest driver of our revised currency guidance, variance [guide].

All right, guys.

Thank you very much.

David Hayes, Nomura.

Hello, gentlemen.

Just in terms of coming back to the underlying EPS cut since the second quarter, you've obviously called out Russia is a little bit worse since then; Indonesia as well; Turkey looks a little bit better; EU about the same.

I just wonder whether there is anything else outside of those markets if you like that is driving that slightly lower underlying EPS outlook that we haven't spoken about?

Then I guess related to that in terms of the Russian side of things, you mentioned at the second-quarter stage that despite the volumes down more than you expected you still saw profitability.

You said explicitly the profitability would be up year-on-year on a slide.

It wasn't there this time.

I just wonder whether you can confirm that you still see profitability in Russia itself being up for the full year.

Thanks very much.

Yes, we see the profitability in Russia being very strong year-on-year, as we demonstrated in this quarter.

In terms of the countries or the markets which we are referring to in our guidance, yes, it is Philippines which is on the list.

It is the Japan share of market; as you know, we had -- okay, sequentially we are still seeing stabilization in Japan, but yes we lost that 1 share point, 1 full share point on the quarter.

The Indonesia total market is softer in terms of the growth rate than we initially thought for the full year.

So we had to acknowledge that one.

That is about it.

That's the main drivers.

Okay, thank you.

Chris Burritt, Bloomberg News.

Thank you for taking my question, Jacek.

First I wanted to ask about --

My pleasure.

In light of your recent success in Thailand and postponing the placement of those big health warnings on packages, what is PM's outlook for regulatory efforts in emerging markets?

Which markets do you see your biggest threats on that front?

Frankly speaking, it is not much that we have more news on the regulatory front.

Because yes, the TPD, the regulatory development which have to wait, there is still a few months until we see what is the final conclusion on this one.

And yes, here and there you might have some regulatory initiatives, but nothing actually on the horizon which would not allow me to sleep these days.

Okay.

If I may ask one last quick question, a bit of them oddball one.

Given the rising popularity of electronic cigarettes here in the US, what is the policy for PM in terms of employees in your New York office consuming e-cigs?

Has it always been allowed?

Is it something you are allowing now given the popularity?

What are you guys doing with that?

Well, our New York office is a non-smoking office.

This is for the conventional cigarettes.

I know myself -- presumably you have seen me on a number of occasions and I am smoking my NGP.

I think we would have to -- it is much more to that element of how disturbing are you actually for others around you.

It is more of the matter of a courtesy than of defining any policy.

Thanks for your time.

I appreciate it.

That was our final question.

I would like to turn the floor back over to Nick Rolli for any closing remarks.

Well, thank you very much.

That concludes our call for today.

If you have any follow-up questions please contact the Investor Relations team here in Switzerland.

Again, thank you for joining us and have a great day.

Thank you.

This concludes today's conference call.

You may now disconnect.