3 Takeaways From Philip Morris' $16 Billion Merger with Swedish Match

Tobacco giant Philip Morris International (NYSE: PM) is making a splash with a blockbuster deal earlier this month to acquire Swedish Match (OTC: SWMAF) for $16 billion in an all-cash arrangement. Swedish Match is a fellow nicotine-products company, most famous for its Zyn nicotine pouches, a smokeless nicotine product.

Philip Morris has a market cap of $160 billion, so this deal is pretty significant and could have some short- and long-term ramifications for shareholders. Here are three key takeaways from the pending merger.

1. Philip Morris will compete more directly with Altria Group

Philip Morris and its sister company Altria Group (NYSE: MO) were a single business before Philip Morris was spun off in 2008. The two companies have always maintained a friendly relationship; Altria sold Philip Morris' IQOS heated-tobacco product in the United States until patent issues arose. The two had formal re-merger talks recently, although nothing ultimately came of them.

Person holding a can of nicotine pouches.

A container of nicotine pouches. Image source: Getty Images.

Investors shouldn't assume that anything in their relationship has deteriorated, but it's clear that this new merger puts Philip Morris and Altria in more direct competition with one another. Philip Morris has traditionally operated exclusively outside of the United States, but Swedish Match generates almost 65% of its revenue from the U.S. market.

Furthermore, the company's Zyn brand of oral nicotine pouches is about 66% of the company's sales, meaning Swedish Matches' most significant business is competing with Altria's On! brand of oral pouches in the U.S.

While Philip Morris will grow the Zyn brand worldwide, it's also the market-share leader in the U.S. for the oral pouch category, and investors shouldn't expect Philip Morris to take its foot off that gas pedal. Altria probably isn't pleased about this merger.

2. The balance sheet is going to be tight

As a reminder, Philip Morris is acquiring Swedish Match in an all-cash deal for $16 billion. Looking at the company's financial picture below, Philip Morris has about $4.6 billion in cash and short-term investments. In other words, it will need to borrow a significant amount to fund the deal, adding to its already $29 billion in long-term debt.

PM Cash Dividend Payout Ratio Chart

PM cash dividend payout ratio. Data by YCharts.

Management did add some color to the financials of the acquisition; it expects the company's ratio of its net debt (total debt minus cash on hand) to EBITDA (earnings before interest, taxes, depreciation, and amortization) to be about 3 times, following the closure of the acquisition. That's a little high for comfort, but the company should remain on solid ground unless business performance suffers unexpectedly. Investors can follow the major credit bureaus like S&P Global for updates on Philip Morris' credit rating.

The company expects to maintain the current dividend, though investors should probably expect increases to be minimal in the near term. Management has also suspended the company's share repurchase program to help conserve cash.

3. Philip Morris could be a global juggernaut

Cigarettes have become a slowly disappearing habit, and Philip Morris is pursuing a smoke-free future. It developed the successful product IQOS, a smashing success for the company.

Acquiring Swedish Match now gives Philip Morris a meaningful presence in the United States, arguably the most lucrative nicotine market due to U.S. consumers' high disposable income. Additionally, the Zyn nicotine pouch is already a strong brand with a leading market share and robust profitability that management says will immediately benefit Philip Morris' financials.

Interest rates are surging, so Philip Morris' decision to load up its balance sheet could mean short-term volatility in the business and its stock. But long-term investors are looking at what is now a truly global company with a stranglehold on the nicotine industry, and shareholders could see many years of steady growth.

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Justin Pope has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends S&P Global. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


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