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Philip Morris sees opportunity in vaping firestorm, closes book on Altria merger

Philip Morris International Inc. sees greater opportunity for its smoke-free heated tobacco device IQOS in the U.S. in light of the controversy engulfing e-cigarettes, CFO Martin King said Oct. 17.

Additionally, merger talks between Philip Morris and Altria Group Inc. are "definitively closed," King said during a third-quarter earnings call.

Philip Morris posted adjusted EPS above analysts' expectations on Oct. 17 and reported an 84.8% increase year over year in heated tobacco shipments for the quarter ended Sept. 30, just a few days before the formal rollout of IQOS in Atlanta.

The U.S. IQOS launch comes as an ongoing deadly outbreak of a mysterious-vaping illness and concerns about marketing tactics contributing to increased youth use fueled a crackdown on the e-cigarette industry in the country.

"Given the news flow around e-vapor and everything else, I think we both agree that there is even more of an opportunity for IQOS in the U.S. than we might have understood a few months ago," King said.

SNL Image

The Philip Morris IQOS device, which heats tobacco without igniting it.

Source: Philip Morris

U.S. smokers looking for alternatives to cigarettes will give higher consideration to IQOS because of its premarket tobacco application, or PMTA, approval from the FDA, King said. The FDA must grant approval for new tobacco products to legally enter the U.S. market on the basis that the products are appropriate for the protection of public health. E-cigarette manufacturers lack that approval and have until May 2020 to file their premarket tobacco applications.

King said it would be unfortunate if IQOS and "properly done" e-cigarettes are caught up in the U.S. controversies and that the company is working with regulators to convey that message. The Centers for Disease Control and Prevention confirmed 33 deaths tied to vaping as of Oct. 15 and 1,479 cases of confirmed and probable lung injury.

"We have worked hard to both make sure that it's understood what e-cigarettes are and how they can be properly regulated to make sure these issues don't evolve, but also to make sure that they understand that heat-not-burn and IQOS are truly a different category," King said.

The IQOS heat-not-burn device is available in 51 markets, including recent launches in the U.S., Belarus and the United Arab Emirates. Philip Morris estimates that about 12.4 million people used IQOS as of quarter-end. Worldwide there are 1.1 billion smokers, according to the World Health Organization.

As it focuses on rolling out the IQOS heat-not-burn device in the U.S., Philip Morris is eyeing international markets for its own e-cigarette, IQOS Mesh. The IQOS Mesh is available in the U.K., but a new version is planned to launch in an undisclosed market this year, Philip Morris spokesman, Corey Henry, said in an email. During the earnings call, King said the rollout of IQOS Mesh would ramp up next year.

"Our plan for Mesh is to get it into as many markets internationally as we can," King said.

Negative feedback

Some analysts anticipated the merger talks with Altria could resume after ending in September. But the companies' connection persists beyond the end of a possible merger as Altria is handling the U.S. rollout of IQOS.

"We have an ongoing relationship with Altria, and both companies will focus on maximizing the IQOS opportunity in the U.S. market," Martin said.

Shareholder skepticism was a factor in ending the merger talks, according to King, as pressure on the e-cigarette industry mounted amid headlines related to vaping illnesses and the FDA's crackdown.

"The environment was developing rather rapidly as we were in these discussions with all the news around e-vapor and the regulatory approach from FDA," King said. "We also got pretty clear feedback from shareholders with a lot of questions about whether this would make sense and shareholders feeling that they could, if they wanted to, be exposed to the U.S. market by Altria separately. They didn't need PMI to do that."

The recent merger talks with Altria grew out of the partnership on the launch of the IQOS, King said, adding that Philip Morris saw the US market as being profitable with room for growth. King rejected the idea that any challenges with Philip Morris' business drove it to the bargaining table and noted the positive earnings for the third quarter.

"There is no merit to the idea that the discussion with Altria had anything to do with our base business," King said.

Philip Morris shares closed nearly 1% higher at $79.85 on Oct. 17.