Investors want to know when Philip Morris' smoke-free shift will pay off

Published Tue, Sep 26 20239:36 AM EDT

Christina Cheddar Berk @in/christina-cheddar-berk-b864404/

Philip Morris International shares have been weak heading into an investor day on Thursday, where the Marlboro maker is expected to provide more detail around upcoming product launches and growth expectations. In a note to clients last week, Goldman Sachs analyst Bonnie Herzog reiterated her buy rating on Philip Morris shares and said she expected a "robust and compelling presentation" that will be a positive for the stock. Nonetheless, shares have been trending lower in recent sessions, off more than 3% in the past week. They are down more than 7% since the start of the year. Anticipation should be building as Philip Morris prepares to bring iQOS back to the U.S. market. The cigarette alternative heats tobacco rather than burning it. Without the smoke, users are exposed to fewer harmful chemicals than traditional cigarettes — a claim the product can make under its Food and Drug Administration authorization. PM 1Y mountain Philip Morris International shares over the past year. Philip Morris had partnered with Altria when iQOS was first launched in a handful of U.S. markets in 2019. But a patent dispute halted sales . Eventually, Philip Morris agreed to buy back the commercialization rights from Altria, and that deal is effective April 30, 2024. How much Philip Morris will need to invest on the U.S. launch is a big question that has been weighing on the stock, according to analysts. And it could take clarity on that issue to move the stock higher. Herzog anticipates that management could raise its mid-term organic revenue target to a range of 6% to 8%, from a previous target of 5%, on Thursday. However, she added, "we wouldn't be surprised if mgmt maintains its mid-term EPS growth target as it ramps investments to drive accelerated growth over the long-term." IQOS is already sold in a number of other markets around the world, and accounts for about 17% of Philip Morris' volume and 33% of its revenue, according to Barclays analyst Gaurav Jain. He said iQOS is "significantly more profitable" than cigarettes both due to various tax structures as well as the fact that it is considered to be a more premium product. However, he said, ongoing investment in the iQOS' expansion has masked the power it can have on the company's profitability. "We think that if PM were to throttle back incremental IQOS investment in new greenfield markets, such as the US for some time, and let IQOS profitability flow to the bottom line, it would serve as a useful guidepost for investors for when the product ultimately enters the US," Jain wrote. Though, he said, that could introduce "a more cyclical element to PM's EPS growth." Nicotine pouches gain popularity Jain was more upbeat on Zyn, a smoke-free nicotine pouch that came to Philip Morris' portfolio via the Swedish Match acquisition, saying it "continues to surprise to the upside." Bank of America recently reported that sales of smokeless tobacco products in August rose nearly 11% year over year, which is a 100 basis point improvement from the prior four-week period. The sales gains are coming from oral nicotine products like Zyn and rivals like on!, Velo and Rogue. By comparison, traditional moist chewing tobacco brands are posting sales declines compared with last year, the firm said. Nicotine pouches like Zyn are discreet to use because there's no smoke, vapor or spitting. The pouches don't even have tobacco leaves. Instead, they deliver the buzz of addictive nicotine via a powder, usually in various flavors including citrus, cinnamon and coffee. Both iQOS and Zyn are part of Philip Morris' efforts to move beyond tobacco to reduced risk products. And this strategy is partly why, Herzog said, Philip Morris is one of Goldman's top picks. "We are bullish on PM as it leads the industry in its pivot to a smoke-free future," she wrote. "We believe this transformation will make PM a faster growing and more profitable company that should benefit as the global nicotine revenue/volume pool accelerates, based on our analysis." Herzog's $122 price target implies shares could gain more than 30% from Monday's closing price of $93.72. However, her target is higher than the $114.49 average price target on Wall Street, according to FactSet. Eighty-five percent of analysts rate the stock a buy. Regulators remain wary Executing behind a harm reduction strategy in the U.S. has been a rocky path to date. Regulators and health groups have been wary of partnering with cigarette manufacturers to promote these products. Some fear that rather than coax smokers to switch to safer options, these newer forms of nicotine could spur teens and young adults who would have avoided cigarettes to experiment and get hooked. Philip Morris' acquisitions in pharmaceuticals have struggled as well. The Wall Street Journal recently reported the company is considering a range of options for the division. Last week, Philip Morris CEO Jacek Olczak spoke on X via ReutersPlus about its harm reduction efforts. The speech came after Olczak's invitation to speak at the Concordia Annual Summit was rescinded under pressure from health groups. The summit is a side event to the annual United Nations General Assembly in New York. In a research note, Jefferies analyst Owen Bennett said this new communications strategy "could prove effective." "With the tobacco companies seeing little success to date in trying to garner public health and regulator support for harm reduction themselves, it is clear a new approach is needed," Bennett said.