RRPs a Respite for Philip Morris Amid Low Cigarette Sales

With cigarette sales volumes being murky, Philip Morris International Inc. PM is striving to recover lost ground on the back of pricing power and growing popularity of its reduced risk products (RRPs). Well, low risk tobacco alternatives are a vital part of the tobacco industry as they help consumers in lowering cigarette addiction. Philip Morris’ IQOS has been particularly doing well in this arena. That said, let’s take a closer look at the aspects helping the company stay afloat.

RRPs are a Key Growth Driver

Philip Morris is focused on building a smoke free future by expanding its RRPs category, which is an effort to aid adult smokers to switch from traditional cigarettes to other low-risk options. Philip Morris is one of the industry pioneers in driving this shift.

Toward this end, the company’s IQOS, a smokeless cigarette, counts among one of the leading RRPs in the industry. IQOS was launched in the United States in 2019, through a commercial deal with Altria MO that was approved by the FDA. On Jul 7, the FDA approved a version of IQOS’s marketing as a modified risk tobacco product (MRTP). IQOS is presently the only heat-not-burn product in the U.S. market, which has been approved by the FDA. This is expected to radically boost the business of the company.

Management noted that since the onset of the pandemic, the switch from smoking cigarettes to RRPs has been trending positively. We note that RRPs formed around one-fourth of the company’s total revenues in the second quarter of 2020, including about 8% contribution from IQOS devices. Heated tobacco unit shipment volumes of 18.7 billion units rose 24.3% year over year in the said quarter. Strong growth in IQOS boosted revenues in the RRPs category, which increased 9.5% to $1,606 million.

Other tobacco companies such as Turning Point Brands TPB and British American Tobacco BTI have also been expanding their offerings in the low risk tobacco space.

Pricing is an Upside

Pricing power is supporting Philip Morris’ top line and adjusted operating income even in the face of the unfavorable tax environment and declining cigarette volumes. Though higher pricing might lead to possible decline in cigarette consumption, it is seen that smokers tend to absorb price increases owing to the addictive quality of cigarettes.

Higher pricing variance was an upside to the company’s performance across most regions during the second quarter of 2020. Combustible pricing of 3.3% along with strength in RRPs and cost-efficiencies helped the company’s adjusted operating income margin in the quarter. Consistent pricing power is likely to act as an upside.

Cigarette Category Lacks Sheen

Receding cigarette sales is putting pressure on the tobacco industry, thanks to consumers rising health consciousness, stringent regulations surrounding cigarette sales and anti-tobacco campaigns. Philip Morris is no exception to this downtrend and the struggle was well depicted when the company reported second-quarter 2020 results. During the quarter, revenues from combustible products were down 19.1% due to declines in all regions. Cigarette shipment volumes, which fell 17.6%, were affected by declines in Indonesia, Philippines and Mexico. Additionally, declining duty-free business due to travel-related uncertainties have also been marring the sale of tobacco products.

Wrapping Up

Clearly pricing power and growth in RRPs are the aces in Philip Morris’ stack, helping it stay afloat. We expect the company to continue gaining on these fronts amid the struggle with low cigarette sales volumes. 

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