Philip Morris Q1 2025 earnings - key takeaways

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Philip Morris’ share price increased by 2.5% following strong earnings. Both revenue and earnings beat estimates, fuelled by the acceleration of ZYN growth and upward revision of full-year EPS guidance (primarily due to the FX tailwind). As usual, I would recommend a Tobacco Insider article summarising the earnings.

While it is a strong quarter, the earnings beat is more driven by the phasing of its growth rather than any meaningful change to the growth algorithm itself. Many analysts who participated in the earnings conference call shall recognise that, thus the questions they asked were mainly financial model-related to fine-tune their quarterly forecast numbers. If any revision is to be made, it will be principally FX driven, given the depreciation of USD against other currencies. Perhaps PMI has built in conservatism in its forecast, considering macroeconomic headwind caused by tariffs, but there’s no quantifiable impact on the business thus far. It has been resilient as ever.

Perhaps one small surprise is ZYN's exceptional shipment volume growth, which increased by 53.8% in the U.S. year over year (and 53% outside the U.S.). This is in stark contrast to Nielsen scanner data, which only increased by 15% year over year. The analyst from Morgan Stanley doubted whether it was due to growth in untracked channels, but it had little to do with this factor. Remember that Nielsen measures offtake volume in retail channels (e.g. gas stations and convenience stores), while shipment volume reported by PMI measures sales to wholesalers and distributors. PMI doesn’t sell directly to its customers, so channel inventory movement could cause a large discrepancy between Nielsen data and reported numbers in any quarter. The strong growth in shipment volume was mainly related to increased production volume and replenishment of retail channel inventories. If everything goes as planned, we shall see the offtake volume growth accelerating to 38% - 45%, which is more in line with PMI’s shipment growth forecast for the year.

However, it is worth noting that PMI’s competitors tried to gain a foothold in the U.S. by heavy discounting while PMI faced an out-of-stock problem. This situation is unsustainable, and they may risk positioning their brands in the deep discount category. When ZYN reoccupy shelf space in retail channels, it will be a stress test for competing brands’ strength. From a multi-category point of view, total nicotine volume consumption shall be very stable in the U.S., so growth in one category will be at the expense of another. If ZYN’s retail off-take volume catches up to production and shipment volume growth eventually and competing brands’ growth algorithm remains intact, then it means the modern oral category will accelerate its growth from 2024, thus cross-category movement will accelerate volume decline of combustible / vape / snus / snuff.

For PMI, cross-category movement is not a concern because ZYN primarily drives its U.S. revenue without any cannibalisation issue. However, for Altria and British American Tobacco, this is something worth monitoring because even if their modern oral product (On! and Velo) can withstand competition from ZYN and maintain their volume or value shares, it will be at the expense of their cigarette and traditional oral volume (and vape for BAT as well). For ZYN, it is a “heads I win, tails you lose” situation, as long as retail offtake volume growth approaches shipment volume growth, which is not an unrealistic target. For Altria and BAT, cigarette and traditional oral is a ~70% gross margin business, while modern oral profit margin is likely lower due to heavy discounting. It could be a triumph veiled in tragedy if volume and profit gained in the modern oral category can’t offset that lost in the cigarette and traditional oral categories. Ultimately, profit and free cash flow matter to shareholders, not mere victory in specific battlegrounds.

IQOS is stronger than ever, as evidenced by continued market share expansion in Japan, Europe, and the rest of the world. The gross margin also expanded nicely as PMI lapped a period of the IQOS Iluma i device launch in Japan (the device margin is much lower than that of consumables). Glo Hilo is still only available in Serbia, and whether it can pose a real challenge to IQOS remains to be seen. However, I tend to believe IQOS will keep winning because the success of its products is more than that of patented devices and consumables technologies alone. It is the amalgamation of various attributes, including after-sales support, marketing excellence, sales representatives (they call themselves IQOS advisors), retail outlets (IQOS Signature Café), brand activation activities (e.g. IQOS x Seletti Sensorium Piazza at Milan Design Week), and many more.

The only issue with PMI right now is its rich valuation, which trades at 22x 2025e earnings based on the high end of management guidance. This valuation could be justified, given that PMI is the fastest-growing company among large-cap consumer packaged goods stocks. However, even in the heydays of tobacco stocks in the 1980s and 1990s, when EPS grew at >10% annually, this sector rarely traded above 20x P/E. Risk reward seems balanced, while further P/E multiple expansion could be challenging. However, the market can be short-sighted occasionally and overly focused on quarter-to-quarter earnings momentum. The key takeaway from the Q1 earnings is that investors seem more concerned about headline numbers (as always) than the intrinsic growth algorithm. If the positive momentum reverses in any quarter, PMI’s share price may react more than it deserves. Who knows?