菲利普莫里斯國際 (PM) 2017 Q1 法說會逐字稿

Good day, and welcome to the Philip Morris International First Quarter 2017 Earnings Conference Call.

Today's call is scheduled to last about 1 hour, including remarks by Philip Morris International management and a question-and-answer session.

(Operator Instructions)

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 2017 first quarter results.

You may access the release on www.pmi.com or the PMI Investor Relations app.

During our call today, please note the following unless otherwise stated.

First, we'll be talking about results for the first quarter of 2017 and comparing them to the same period in 2016.

Second, all references to total industry, PMI volume and PMI market share performance now reflects cigarettes and PMI's heated tobacco units for those markets that have commercial sales of iQOS.

A glossary of terms, adjustments and other calculations as well as reconciliations to the most directly comparable U.S. GAAP measures are at the end of today's webcast slides, which are posted on our website.

Reduced-Risk Products, or RRPs, is the term we use to refer to products that present, are likely to present or have the potential to present less risk of harm to smokers who switch to these products versus continuing smoking.

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's now my pleasure to introduce Jacek Olczak, our Chief Financial Officer.

Jacek?

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

And as announced this morning, we're increasing our 2017 reported diluted EPS guidance at the prevailing exchange rate by $0.04 to a range of $4.84 to $4.99 for a favorable tax item only.

Our guidance continues to include $0.08 of unfavorable currency.

Excluding currency and the tax item, our guidance represents a growth rate of approximately 9% to 12% compared to our adjusted diluted EPS of $4.48 in 2016.

As a reminder, we expect our currency-neutral financial growth to be skewed toward the second half of 2017, notably reflecting increased heated tobacco unit capacity and improving returns on our RRP investment as the year unfolds.

Let me now take you through our first quarter results, beginning with our combined cigarette and heated tobacco unit shipment volume, which declined by 9.4% or 7.8%, excluding estimated inventory movement.

The decline was due primarily to the impact of lower cigarette industry volume, partly reflecting the macroeconomic environment in Indonesia, Pakistan, the Philippines and Russia as well as the high prevalence of illicit trade in Pakistan and the Philippines.

As seen on the left side of the slide, over half of the total decline consisted of low-price segment volumes, some of which contributed very little, if any, unit margin.

This limited the impact on our profitability and differs dramatically from the overall price segment split of our premium position portfolio, as shown on the right.

Our first quarter volume decline was slightly larger than anticipated due to essentially to the lower industry volume in Pakistan and Philippines as well as the magnitude of unfavorable inventory movements in Italy and Spain.

For the full year, we expect a combined decline of 3% to 4%, broadly in line with last year.

The expected improvement over the balance of 2017 is supported by 3 main factors: The lapping of challenging first half comparisons versus 2016 in select geographies, such as Argentina, the EU region and Turkey; a lower impact of estimated unfavorable inventory movements on a full year basis; and a significantly higher heated tobacco unit volume.

Despite the cigarette-driven volume decline, net revenues in the first quarter increased by 1.7%, excluding currency.

This growth reflected favorable pricing, particularly in the Asia and EEMA regions as well as the higher heated tobacco unit and iQOS device sales.

For the year, we continue to anticipate currency-neutral net revenue growth above 6%.

Adjusted OCI declined by 1.7%, excluding currency, primarily reflecting lower cigarette volume as well as significantly higher investments behind the commercialization of iQOS, notably in the EU region and Japan.

Adjusted diluted EPS were flat at $0.98, with no currency impact, as the favorable effect of currency such as the Indonesian rupiah, Japanese yen, Russian ruble and Swiss franc were offset by the negative effect related to the Egyptian pound, Mexican peso and Turkish lira.

Our strong pricing variance represents 6.7% of first quarter 2016 net revenues and included positive contributions from all 4 regions.

During the quarter, we announced or implemented price increases in a number of markets, notably Argentina, Germany, Indonesia and Turkey as well as others shown on this slide.

Our first quarter market share, excluding China and the U.S., declined by 0.9 points to 26.8%, due principally to brands in below-premium priced segment, such as low-priced Morven Gold in Pakistan, Fortune and Jackpot in the Philippines and Next/Dubliss in Russia.

Our premium brands performed well in the quarter, contributing 0.2 points of market share growth, driven by the strong performance of our heated tobacco brands.

I will now discuss a few of our key geographies, beginning with the EU region.

Industry volume declined by 2.8% in the quarter, consistent with the secular decrease in the market and our full year decline forecast of 2% to 3%.

Our volume was down by 7.1% but was impacted by estimated unfavorable distributor cigarette inventory movement, notably related to the implementation of the Tobacco Products Directive in France, Italy and Spain.

Excluding these inventory movements, our volume declined by 2.9%, broadly in line with the industry.

Our regional market share was essentially flat in the quarter, with growth in markets such as France, Germany, Poland and the U.K., offset by declines notably in Italy and Spain.

In Italy, the sharp decline was due mainly to Philip Morris, reflecting the growth of the super-low price segment as well as Marlboro, which is the only major cigarette brand above the round EUR 5 per pack price point.

Marlboro was also impacted by the TPD's ban on pack sizes of 10 cigarettes, which contributed approximately 12% of the brand's cigarette volume prior to the ban.

On a sequential basis, our total share in Italy was slightly up versus the fourth quarter, supported by the growth of HEETS.

In Spain, the sharp decline was due principally to Marlboro cigarettes, notably reflecting the brand's passing of the round EUR 5 per pack price point in the vending channel, which accounts for nearly 30% of Marlboro cigarette volume.

Moving to Russia, industry volume declined by 7.9% in the quarter, due primarily to the impact of excise tax-driven price increases.

For the full year, we expect the decline to moderate to a range of 5% to 6%.

Our February quarter-to-date cigarette share declined by 0.4 points versus the same period last year, due mainly to the slower penetration of competitors' price increases.

However, our share has increased sequentially over the past 2 quarters, driven by low-priced Bond Street as well as Philip Morris, which has benefited in part from the consolidation of certain local brands in the Philip Morris trademark.

As evidenced by the brands driving our sequential cigarette share performance, we are observing further down trading in Russia.

While the presence of big packs has declined following the ban of the production as of July last year, residual volumes remain in the supply chain, and we are continuing to witness price competition around limited pack editions, with discounts equivalent to the per-stick price of big pack.

Importantly, we are effectively balancing our market share and profitability growth in Russia.

Turning now to the Philippines.

We continue to prioritize the growth of our premium portfolio's profitability over the defense of low-margin volume and share.

Higher pricing and favorable portfolio mix, reflecting the strong performance of Marlboro, drove profitability growth in the quarter despite the cigarette industry volume decline of 15.6%.

Marlboro cigarette share increased by 5 points to 32.5%, driven by in-switching from lower-priced brands.

To further highlight Marlboro's strength, its sequential share has now increased for 11 straight quarters.

Our total cigarette share decline in the quarter was due mainly to the timing of competitors' price increases as well as continued competitor discounting at the bottom of the market.

This led to widened price gaps notably compared to Fortune and Jackpot.

We are therefore encouraged by the government's renewed focus on addressing illicit trade, including excise tax stamp compliance.

We are hopeful for sustained enforcement to address the issue long term, which we believe should ensure that prices at the bottom of the market reflect full excise tax payment.

In Indonesia, cigarette industry volume declined by 5.5% in the quarter, reflecting the continued soft economic environment and above inflation tax-driven retail price increases.

While history shows that quarterly trend in the market can be volatile, we anticipate a decline of 1% to 2% for the full year, in line with 2016.

Our cigarette market share declined by 0.5 points in the quarter, due mainly to Sampoerna A, our leading lighter-tasting machine-made kretek brand, as well as Marlboro in the white segment, following its passing of the IDR 20,000 per pack price point.

The decline was partly offset by the growth of full flavor machine-made kretek offers, such as U Bold and Marlboro Filter Black.

The latter has been gradually expanding since its initial launch in 25 cities last September and reached 1% national share in the first quarter.

In Japan, the strong performance of iQOS continues to be the primary driver of our result.

Market share increased by 5.4 points in the quarter to 30%, driven mainly by the growth of Marlboro HeatSticks.

Marlboro's share, including cigarettes and HeatSticks, increased by 5.7 points to 17.1%.

Industry volume declined by 7.4% or by 4.3%, excluding inventory movement.

The strong performance of iQOS in Japan is further evidenced by the weekly offtake shares for Marlboro HeatSticks.

As seen on this chart, the brand closed the quarter with a weekly offtake share of 9.6% nationally, 11.6% in Tokyo and 14.9% in Sendai.

We believe that the strong offtake performance in Sendai, in particular, clearly demonstrates the growing potential of the heated tobacco category in Japan.

Turning to the commercialization of iQOS more broadly.

We have now launched iQOS in key cities in 24 markets globally, following city launches in Colombia and Lithuania during the first quarter and in Poland and Serbia earlier this month.

By year end, we continue to expect iQOS to be in key cities nationwide in a total of 30 to 35 markets, subject to capacity.

Importantly, our heated tobacco portfolio is beginning to achieve strong national market share growth sequentially in some of our early launch markets beyond Japan.

For example, in Italy, Switzerland and Portugal, our national share reached 0.5%, 0.9% and 0.4%, respectively, in the first quarter of 2017.

This result has been achieved despite iQOS focus areas representing less than a 35% of cigarette industry volume in each market.

Our share performance in Germany is also worth highlighting.

Given the limited focus area and relatively brief period since launch, national market share data are not yet meaningful.

However, HEETS have recorded strong sequential offtake share growth in Berlin, Frankfurt and Munich, reaching a combined share of 0.6% in the first quarter and 0.8% in the last week of March.

Let me now provide an update on our heated tobacco unit capacity.

We enter 2017 with approximately 15 billion units of installed annual capacity and continue to anticipate approximately 50 billion units of such capacity at year end.

This translates to over 32 billion units in expected total capacity available for commercializations in 2017.

As additional capacity has come online this year, we have begun to gradually increase the number of iQOS devices available for sale in Japan and will continue to do so as the year unfolds.

In addition, we have started to implement our plans to reach installed annual capacity of 100 billion units by the end of 2018.

As a result, we expect to have approximately 75 billion units in total capacity available for commercializations in 2018.

In support of these plans, we recently announced our decision to convert our cigarette factory in Greece to heated tobacco unit production.

Consequently, we are increasing our planned capital expenditures in 2017 to $1.6 billion from the $1.5 billion previously communicated.

We continue to target operating cash flow of $8.5 billion this year.

In conclusion, our first quarter results generally came in as expected, though cigarette volume was lower than anticipated.

Our key assumptions for the full year remain intact, namely currency-neutral net revenue growth above 6%, supported by favorable pricing as well as higher heated tobacco unit and iQOS device sales.

To build upon the exceptional performance of iQOS, we are making significant investments behind both commercialization and the expansion of heated tobacco unit capacity.

Importantly, we currently estimate that approximately 1.8 million adult consumers have already quit smoking cigarettes and switched to iQOS.

Finally, the full year outlook for our business remains strong.

Our 2017 EPS guidance reflects a growth rate of approximately 9% to 12%, excluding currency and the favorable tax item, compared to adjusted diluted EPS of $4.48 in 2016.

Thank you, and I will be happy now to answer your questions.

(Operator Instructions) Our first question comes from Chris Growe with Stifel.

I just wanted to ask you 2 questions, if I could.

I just want to get a sense of, you have this available -- iQOS available in 24 markets today.

There's been some comments, maybe it's going to going into France versus more markets still to come throughout the year.

As you look at your capacity development throughout the year, you've given the numbers clearly what's available for the year, but you're having a pretty quick uptake, obviously, in Japan, meaning you're going to need more and more volume for that market.

I just want to get a sense of, is it more important now to have this available in more markets, or to make it more widely available in the existing markets in which you're in?

Do you have the capacity to do both of those in 2017?

Okay.

Look, it takes a bit of a time in each market to build necessary capacity infrastructure in order for the national expansion.

So I mean, what we have learned so far from experience we have with the commercialization of iQOS is that the best is to start always with 1 or 2 cities and start building the expansion based on what we have learned and what we have installed in the cities.

This requires quite significant employment of additional sales force but also creation, establishment of iQOS stores, boutiques, flagship stores, et cetera.

So we always will need that runway.

And essentially, opening these markets earlier does not put, at this stage, that much of a constraint on available capacity but allows us to build faster, much broader base ahead of 2018 or 2019.

So this is how we look at that thing.

And as you might have noticed, Chris, we also have made now the decision to take this theoretical capacity expansion of 4 billion per month, which we have announced 0.5 year ago, that we have that option.

We have decided to essentially implement this plan.

So we're already committing ourselves to this 100 billion year-end capacity next year to essentially accelerating our plan.

Okay.

And do you still expect iQOS to achieve breakeven profitability in 2017?

Absolutely.

Okay.

And just I have one quick one, if I could, on the volume performance for the underlying business.

And it was obviously weaker than we thought, obviously weaker than you thought.

And there's obviously some adjustments from inventory and timing changes, and you gave some color on that.

But the -- going forward, you expect a pretty significant improvement in the underlying volume performance of the business.

I just want to get a sense of, so if you look across a lot of the markets, there's some pretty significant market share declines in some markets.

Do those start to narrow?

Or is it more about iQOS developing and contributing to your overall volume?

I just want to get a sense of that balance sheet you expect for the rest of the year.

Look, I mean, in some markets, when we have posted in the quarter more sizable market share losses, we have highlighted in my remarks the sequential developments.

So in both markets, we could see improvements, Q1, Q4, of the sequential within a quarter, et cetera.

So I think we keep that -- we keep a strong grip on the conventional business in the markets where we, for whatever reasons, under pressure.

I mean, Italy is a little bit more complicated because on the one hand, we're focusing on a combustible business while also building the base for the iQOS.

But there are some problems in Italy, which frankly speaking, are beyond our power to execute.

As we know that the tax structure in Italy is not very supporting for narrowing the price gaps.

Marlboro is above the -- Marlboro in a conventional business, on a conventional cigarette, is above the EUR 5 price point.

So I guess there will be some pressure on Italy, on Marlboro in Italy, and the conventional business continuing for the year.

But on the other hand, Germany is still on the -- continues to be on a strong term.

France, despite the fact that we have a first quarter -- I know it's a bit early of the plain pack implementation, but France posted a very good results in a quarter.

And the rest is purely the comps.

Remember that we're comparing the first quarter to the relatively strong -- weaker declines in the Q1 of the first quarter last year in Argentina.

And then we had this massive tax increase.

There were others, a number of other geographies where we also faced a bit of most challenging comps in the Q1.

What came -- if I may add, Chris, what came as worse than our expectations, frankly speaking, is Italy and Spain, when we had to take the inventory adjustment.

I mean, we know that comparing to the Q1 last year, we will have to adjust, but I think during the TPD buildup of inventories, and especially in Italy, conversion of 10s or ban of sales of 10s, we have anticipated the higher conversion of the 10s to 20s when it comes to the retail, start the replenishment.

And I think this went -- this come weaker than we thought.

Is it over or is it going to continue?

We'll have to see.

But anyway, I mean, we don't expect any major, at this point, inventory adjustment for the year.

So at least, this headwind is removed.

And as I said, number of comps, if you look both in the EU but in other regions, I mean, we should have it -- I mean, they should be more helpful or more supportive.

And as I said, we still feel confident on the total volume outlook.

Obviously as you know, we focusing more on the combined volume.

Otherwise, we'll have to start making a number of assumptions with regards to the cannibalization, et cetera.

But I think they are a good proxy that we can close the year with the volume performance at par or maybe even slightly better than what we had for the full year last year.

Our next question comes from Vivien Azer with Cowen.

Just to follow up on Chris's questions.

So if we're still looking to breakeven in '17, Jacek, given the momentum that the business is seeing, on balance, it would seem that you're still on track to generate incremental profits from iQOS in 2018.

But how are you thinking about the need for reinvestment spending, given your first-mover advantage and the traction that you're seeing from the product?

And would you be able to offer any kind of order of magnitude guidance around what that level of profitability might look like?

Look, we have said it, I guess, earlier this year that we look -- and we reconfirm this, reaffirmed this today, we're looking at the revenue growth above 6%.

And earlier, we have said that we're still looking at the margin, operating profit margin expansion somewhere in the tune of a 10 to 20 points.

Clearly, we could have achieved a better margin expansion, but this does factor in increased investment, namely behind the iQOS.

This is both on the OpEx and operating cost, and as I announced, as we announced today, also on the CapEx to prepare the capacity.

So I think we well invested, frankly speaking, on a both sides, both on a combustible, although there is some reallocation or allocation of the resources from a combustible business to Reduced-Risk Product.

But I think we feel pretty comfortable with the investments which we plan to make this year, as I said, to support the revenue growth above 6%.

That's helpful.

And just in terms of the longer-term outlook for 2020, Jacek, you had pointed to a higher profit number when you spoke at the CAGE conference.

So can you just offer a little bit of context on what the implied HeatStick volumes would be for that $1.4 billion to $1.5 billion in incremental profit?

Yes, look, we -- is a number of times recently, I'm being confronted with this question, Vivien.

Yes, we gave that outlook, I guess, 2 years ago or so.

And I have already admitted -- maybe I shouldn't.

I have admitted, I think, at the CAGE conference a few weeks ago, both numbers seems to be wrong.

Our 2020 was wrong, and we're going to keep the target well ahead of this deadline, or definitely, the volume number was wrong.

I mean, you could see at the pace which we cruising today.

We see the penetrations and the market share in Japan, it goes well above the 3% to 5% which we have marked as the target for 2020.

So you have to give us the time to really put the -- our brains around what really is the size of that opportunity today.

Clearly, it's a much bigger opportunity than we have thought 2 years ago, but I would refrain from giving a new target at this stage.

We have also said to investors that in 2018, somewhere in 2018, we'll try to come up with a new [ growth algorithm ] for PMI.

And I guess this would be the best timing to put some milestones what we want to achieve with our big objective to go to the smoke-free future as PMI.

Our next question comes from Judy Hong with Goldman Sachs.

So first in Japan, so there's been some press reports about PM planning to take some pricing on your combustible business.

So can you confirm whether you filed for price increases application in Japan in combustibles?

Judy, you will appreciate, but I can't comment on our pricing, future pricing decision, at least at this stage.

So we'll have to leave it as it is now.

But when you kind of think about your full year guidance at this point, does it include any of the potential price increase in Japan?

Judy, please, I can't comment on future pricing.

That's fine.

All right.

And then I guess staying in Japan.

So obviously, you've seen a pretty strong share gain even in Sendai, as your competitor have launched in that market.

So how do you sort of look at that market?

And kind of what are the lessons learned in looking at that market and applying kind of a similar share performance to the broader Japanese market?

Or your ability to kind of defend your share as your competitors begin to expand more nationally in Japan?

Look, if we just look at Sendai, and maybe the data is not fully reliable for us and for our competitors, there are competitors there, but I think in Sendai in the quarter, the total heat-not-burn category must have crossed 20% market share.

What I hear, what I know from our side and what I hear about our competitor, we're both operating with some sort of a capacity limitation.

And I know that there are quite the waiting lines in Sendai, in other places in Japan, to buy iQOS or competitors' device, which tells me that demands today is 20% and it's growing and it has a large portion of unsatisfied demand, i.e.

people are not allowed to buy devices because devices are not available.

I wouldn't be surprised if Sendai category, heat-not-burn category in Sendai, would cross the 30% share of total market by the year end.

And maybe even that number is wrong.

I think we clearly can see the word-of-mouth effect, for people -- those who have successfully managed to quit smoking and have moved to the heat-not-burn category are sharing the benefits with their peers, with their colleagues, et cetera.

So it's a classical word-of-mouth type of an effect.

Category is gaining awareness, both in terms of its existence in the benefit the category offers.

So it's all augurs for the great future, but I think is the big question now, what is really the -- how long that growth rate is going to be there?

And what is the ultimate size of that thing?

Is it 100% of the market?

I guess no.

But people, this is -- you remember me saying a number of occasions, this is not the most innovative industry when you look at the history of this industry, right?

The filter cigarette, the flip-top box, and that's about it.

It's a bit about the capsules and a slimmer format.

It took a while to convert cigarettes, conventional cigarettes, from a nonfilter to filter cigarette.

But it happened in less than -- in about 5 years, 10 years, depends on the market.

Maybe we are in the front of such opportunity here.

We'll have to see.

I mean, if all goes into the right direction.

Obviously, Japan is a little bit in a better situation due to the marketing channels availability compared to other markets, et cetera.

But even if we start factoring this in, you may dispute the -- on a timeline of the curve, the difference of the 1 or 2 years.

But since that the product might have -- might -- the consumer, sizable group of consumers, very sizable group of consumers, who are waiting for that product.

Okay, got it.

And then just lastly on the capacity-related question.

So with the EUR 300 million investment that you've talked about for the Greece plan, that gives you 20 billion additional sticks from an iQOS HeatSticks perspective.

So that would be 50 billion plus 20 billion, 70 billion.

So would there be incremental CapEx if you were to get to 100 billion capacity by end of 2018?

And should we take that into consideration just from a CapEx for '18 perspective?

Well, there won't be impact on the CapEx in '18.

We have not announced the number of the CapEx for '18, so we have to wait a bit.

The only thing which we have -- the Greek numbers which number for the Greece conversion, Greek factory conversion, is included in my $1.6 billion for this year as a CapEx impact on the cash flow.

And then I guess we will have other factory conversions or capacity expansion capacities which we'll be announcing as the year unfolds in order to build up that 100 billion, okay?

Because always is the question of the machinery and equipment.

And it's obviously the questions where we're going to host, i.e.

where are we going to locate that manufacturing capacity, especially with thinking in a context of converting existing combustible assets.

Our next question comes from Bonnie Herzog with Wells Fargo.

Jacek, I have a couple of quick questions on iQOS.

Could you give us an update of -- or from your test for Platform 2?

I believe you were testing that in the first quarter.

And if so, could you again give us an update on how that performed?

And any plans to roll that out?

Bonnie, we must have some miscommunications.

We haven't test Platform 2 in the first quarter.

We have said we're going to test it later this year, PM -- P3 and P4 as well in some cities, in some locations.

But we have not done this test yet.

Okay.

So it's on track then to be tested this year still?

Correct.

Okay.

And then question on your tax benefits for iQOS.

I guess I'd like to better understand these tax benefits in the markets you're in.

So on average, are you still seeing around a 20% benefit across all of these markets?

And then curious, what are the economics on iQOS in markets where there's no tax benefit?

Could you still generate profits on iQOS that would be comparable to your combustible cig business?

To my – well, first of things, the iQOS lower tax on that heat-not-burn category is -- well, it differs country-by-country, but it would be better or higher benefit than the 20%.

I guess Japan is in about plus/minus 20% benefit.

That's one.

Second is, to my knowledge, frankly speaking, I don't recall a country in which we have commercialized about -- frankly speaking, to commercialize, in which the heat-not-burn category is not classified as a lower -- with a lower tax burden.

I might be wrong, but I don't think so, we have any single country to the market today when we wouldn't have the -- when heat-not-burn wouldn't have a lower tax classification.

That's what I thought, Jacek.

But what about a scenario where, fast-forward several years, where some of these governments might change the tax benefits, which we can argue why that shouldn't be the case, but just let's think about a worst-case scenario.

So I guess I'm trying to get a sense of the economics on iQOS if you had no tax benefit.

There must -- help us understand that and how you think about that.

Well, iQOS or the HeatSticks are sold at the price of a premium segment, right, of the market.

So that's even excluding the tax benefit, we are premiumizing our portfolio, i.e.

we're operating with the positive mix -- product mix category territory.

Secondly, as we roll out and build up the capacity, we also are gradually lowering the cost of the manufacturing.

So as we have said from the very beginning of our journey in this new category, we would -- one should expect that one day, the consumables, i.e.

the HeatSticks, will be manufactured at the very close unit cost to the conventional cigarette.

So I have a cost approaching the conventional cigarette and I am operating at the margin level of the premium segment.

So it would be equal if I would have a rapid expansion of the Marlboro volumes across the geographies.

So at least from a mix perspective, I am better off.

And these margins, clearly, market-by-market, are better than my average profit margins or unit margins on my entire portfolio.

So (inaudible) benefit on the...

Okay, that's helpful.

And then just last quick question.

Certainly, your conversion rates with iQOS and HeatSticks have been very high, which is great, but I'm curious to hear about trial.

How has that been building in some of your iQOS markets in terms of just essentially recruiting new users to try this technology?

Well, okay.

I mean, Japan is clear that the trial is, frankly speaking, limited because it's all the factor of how many devices we allow the trade to sell.

So this trial is -- the number doesn't exist in a sense.

I mean, the line of people, waiting list for the devices in many shelves.

So the trial is -- people are buying and getting the device.

In other markets, frankly speaking, the trial rate are about the same as we had midterm in Japan.

In a sense when we went to the -- from a 60% coverage to the national expansions, you remember we have lifted the trial rate and we have lifted the conversion rate.

And all of the markets -- or most of the markets where we are now with iQOS are enjoying about the same statistics and the same leading KPI, if you like.

Remember that the trial, the product which we selling either ourselves or through our selected trade partners is only for adult smokers, right?

So we don't have a much interest, if at all, from the nonsmokers.

But by the other own rules of conversion, the product is only allowed to be sold to adult, it's obvious because it's a tobacco/nicotine-containing product, but also only to smokers.

And that's also important for us that we don't create any unintended consequences both when it comes to people who successfully quit smoking or people who never smoked before.

Our next question comes from Adam Spielman with Citi.

So I'm a little bit confused about your attitude towards market share in the conventional business.

When I look at the sequential market share, so I'm looking at the market share you posted in Q1 versus what you posted in Q4, outside Europe, you've seen declines in pretty much every geography that you'd listed in the press release.

And so my question -- which looks worrying to me, but listening to the tune of your prepared remarks, you implied that this is roughly in line with expectations and not a big concern.

So am I wrong to read that there has been a decline sequentially since 4Q outside Europe?

And am I -- how concerned are you about the market share trends in conventional?

Adam, I will very gladly help to un-confuse you.

I think that -- but we will have go geography-by-geography on how we look at these trends.

If I take the significant market share erosions which we observed, one obvious comes for example, Philippines.

Very sizable market, and we have a total of significant share losses and it obviously weighs on the total of PMI volume and the share performance.

But we have highlighted very much that instead of protecting the low-margin volumes in absence of the proper law enforcement when it comes to compliance with regards to the tax stickers, we just have, 2 years ago, changed the strategy and focused on managing the Marlboro for the price -- reduction of the price gap.

And so far, the strategy is very successful.

Marlboro grows significant market share despite the fact that there is some down trading in the market.

And secondly, we're in double-digit bottom line OCI growth territory.

Then you have some markets where the trends -- okay, Indonesia is, as we know, is the continuous shift between hand-rolled to machine-made, et cetera.

I mean, at the recent launches which we have made in the machine-made segment, including the Marlboro Black, kretek, which quarter in a market and not in a full even distribution, has achieved a very strong 1% market share.

So that, by Indonesian standard, is very strong.

And also U Bold initiatives, et cetera.

I think so far, they all goes well.

Will we grow the share in Indonesia?

I mean, that remains to be seen.

Can (inaudible) the market share?

I feel positive about this one.

That's the large markets, right, where any share fluctuations of -- share erosions matters for PMI.

Then you have a market which you have typical sort of a Q1 distortion which are driven by the price increase patterns.

You take Mexico, you take Canada and just the timing of the price increases may change year-on-year, you might have a different purchasing pattern by the trade.

And therefore, you might have these fluctuations.

Now we are watching carefully the performance of the combustible business, and we obviously, as always, watching very carefully the market share performance.

I have mentioned the performance in Italy.

And I call it of -- as that going to be -- is going to stay for a while because there is a structural problem with the market.

It's a pretty wide price gap, lack of effective tax solutions at the bottom of the market.

When I compound, temporarily I hope, with the elimination of the packs of 10 cigarettes, which obviously Marlboro has some quite significant exposure in that part of the market.

Spain, okay, is always, when you cross the price points, you need to suffer for a couple of quarters until the -- either the market takes the next pricing or consumer has adjusted, let's say.

On the other hand, I have a very high priced Marlboro in France and continues to grow.

So I hope, Adam, I at least partially helped to un-confuse you.

And just to sort of throw the comments forward, you say that in the full year, you now expect between minus 3% and minus 4% volume declines on a total basis.

My guess is that's going to be -- how can we put it?

It's going to be somewhat weak in the second quarter and gradually improve to that minus 3% to minus 4%.

Both, I'm guessing, as conventional business gets less bad and as the HeatSticks picks up.

Is that how we should think about it sequentially?

We should have -- well, maybe I turn it to the revenue.

I think as of Q2, we should expect a much more robust revenue growth, which is a combination of the pricing, better volume mix, which frankly speaking, we didn't talk about the mix specifically in the quarter.

But mix in the Q1 came much better or much lower than the mix in Q1 last year.

So some of this comp's going to lump -- lap.

And as I said, as of Q2, we should see a much stronger volume -- sorry, revenue growth on the way to, as I said, to achieve the above 6% for the full year, net of currency, revenue growth.

And can I ask a very quick follow-up, somewhat technical question?

When you quote HeatStick market share in Europe, I'm thinking about in Italy and Switzerland, for example, is this offtake market share?

Or is this shipment market share?

No, this will be offtake market share.

Well, depends on the market, which data we have available.

But we usually refer to what we call the in-market sales.

So it's not us to the distributor but ex-distributor sales.

It may not, in all markets, be of the retail, but to retail.

Now depends...

Yes, yes, yes.

I understand.

Very clear.

Our next question comes from Michael Lavery with Piper Jaffray (sic) [ CLSA ].

Just a question on iQOS.

It looks like your volumes from fourth quarter to first quarter grew by around 20%, but your revenues by more like 26% or 27%.

Can you just touch on what's driving that acceleration and what's giving the mix lift?

Is it countries' growth, faster growth now in countries with a bigger tax benefit?

Or is it more -- it is driven by more devices outside Japan?

What's happening on the margin there?

There could be some distortion from the devices.

But as we said for the full year '16 when we were announcing full year results, I mean roughly, devices in the RRPs -- in RRPs-related revenues should account for about 20%, 22%, somewhere in this range.

So might have a bit higher shipments of the devices.

But -- and I wouldn't look at this from purely from the quarterly prospective because there are different sources of the supplies.

And of course anyway, we have to start shipping more devices in order to follow this output, or higher shipments or in-market sales of the HeatSticks.

So we always will have some distortion there.

On the IMS basis, and I maybe go back to the very appropriate question Adam just asked before.

This on IMS basis, if I recall the shipment of, at least in Japan -- sorry, on IMS basis, the sales of -- in Japan of the HeatSticks quarter-on-quarter grew about 30%.

And then what we see is about -- just HeatSticks, okay.

So if there was any distortions in revenues, is presumably are coming more from other locations than the devices.

Okay, that's helpful.

And then just looking at Japan, even on an unadjusted for inventory movement basis and more so when it's adjusted, taking that the cigarettes and the HeatSticks volume together at the category level, it looks like there's actually positive growth.

Are you seeing -- which is clearly better than historically it's been.

Are you seeing increased usage occasions?

Or what do you think is driving some of that better total momentum overall?

I wouldn't say that Japan -- I think Japan is somewhere squarely in line with a secular type of a decline.

So I think Japan is in -- [ now we're in ] this 3% to 4% type of a decline.

Altogether, I mean, all the -- well, all the categories.

And I don't think in the longer term, this should change, absent obviously any other changes to the market.

But as we are today, I mean, this is what one should expect as a baseline for Japan.

Total category should be somewhere, I think, in the range of 3% to 4%.

Now there is some -- I think JT was taking some price increases on a C category, okay.

They were relatively lower total share, but I think there might be some elasticity kicking in.

And always on a quarterly basis, Japan numbers, you have to properly -- one have to properly adjust for both the pipelining of the new product launches on a -- okay.

It was always on a conventional business, but I think this still continues.

There might be some comps as well when JT was taking a Mevius.

I think last year, pricing of Mevius up last year.

So there presumably was some distortions in new market.

But as I said, nothing today would indicate that the total category trend in Japan would be outside the 3% to 4% type of a burden.

Okay.

And then just one last follow-up on capacity.

I know you've outlined a lot of things about that.

If you clarified this one, forgive me if I missed it, but I know you had been saying you expected to be off of capacity constraints at the end of Q1.

That's now obviously been a few weeks.

Are you still rationing devices in Japan?

Or do you have the floodgates open?

What would be right way to think about where you sit today?

We start shipping or we start slowly lifting the quotas for Japan as of Q2, but we will not be in a position to significantly lift it before the Q3, okay.

Because (inaudible) the devices because we're still catching up of the capacity of HeatSticks.

But capacity of HeatSticks, every month on the January, Feb, March, we're already increasing it.

You could see this in our shipments, and we're going to continue doing this for the whole year, so.

Ladies and gentlemen, that will conclude today's question-and-answer portion on today's call.

I will hand the program back over to management for any additional remarks.

Thank you very much.

That concludes our call for the day.

If you have any follow-up questions, you can contact the Investor Relations team.

We're back here in Switzerland.

Thank you very much.

Have a great day.

Ladies and gentlemen, this will conclude the Philip Morris International First Quarter 2017 Earnings Conference Call.

You may now disconnect your lines and have a wonderful day.