Phillip Morris Stock: A Great Buy For Income In 2024 (NYSE:PM)

Overview

Philip Morris International (NYSE:PM) functions as a tobacco company with a focus on shaping a smoke-free future and expanding its long-term portfolio to encompass products beyond the tobacco and nicotine industry. The company’s core product range includes cigarettes and smoke-free alternatives, such as heat-not-burn, vapor, and oral nicotine products, primarily marketed under the IQOS and ZYN brands.

I completely understand that “sin stocks” aren’t everyone’s cup of tea. “Sin stocks” typically include industries like tobacco, alcohol, gambling, and adult entertainment. Ethical, moral, or health concerns play a significant role most of the time. However, I am more than willing to get some exposure to stocks like PM in my dividend portfolio of over 40 companies. I think the qualified dividend income that it can provide is highly valuable and the industry will always be around. I also see the growing potential with two of their product lines that I will discuss further into this article.

Financials – IQOS & Zyn

During Philip Morris’ recent earnings call, the company reiterated its full-year earnings per share outlook, expressing confidence in its projections. Anticipating what it described as “excellent” organic top-line growth in 2023, PM’s management remains optimistic about its financial performance. Also, they experienced an exceptional 20% growth in adjusted earnings per share. This achievement has propelled the company to reach a record quarterly high of $1.67 in EPS, reflecting not only its resilience in navigating market challenges but also its ability to capitalize on strategic expansion opportunities.

PM has a solid financial performance when looking at some specific products. Total shipment volumes have increased by 2.2%, indicating a healthy demand for Philip Morris’s products. This growth underscores the company’s ability to effectively manage its supply chain and meet consumer demand, contributing to its overall positive performance.

One of the notable highlights is the outstanding growth of ZYN in the U.S., which has surged by an impressive 66%. This growth in the U.S. market signifies the increasing popularity and market penetration of ZYN, a key player in Philip Morris’s portfolio. The U.S. nicotine pouch category is still in its early stages, and within just five years of its national launch, ZYN has become a substantial $2 billion retail value brand. To support long-term growth, investments are being made in both commercial and manufacturing capacity. Looking ahead, ZYN is expected to play a pivotal role in driving overall double-digit net revenue and adjusted operating income growth in the U.S. from 2024 to 2026, inclusive of the impact of investments in IQOS.

The success of ZYN, coupled with continued strong growth in IQOS, the company’s innovative smoke-free product, showcases Philip Morris’s commitment to providing consumers with diverse and appealing choices. With a substantial opportunity emerging over time, encompassing approximately $1 trillion in total cigarette volume. Preparations are underway for an upcoming launch in the U.S., where there is already a discernible readiness among adult smokers for Smoke-Free Products (SFPs). These strategic moves reflect the company’s careful consideration of consumer dynamics and its proactive approach to expanding the market presence of innovative alternatives to traditional cigarettes.

Dividend

As of the latest declared quarterly dividend of $1.30/share, the dividend yield sits around 5.5%. The Seeking Alpha Quant grades give PM straight A’s across the board in safety, growth, yield, and consistency.

PM currently has a dividend payout ratio of 84%. On their latest earnings report, management has stated they are looking to get that number down to 75% over time. If achieved, this will add an additional layer of cushion and opportunity to continue growing the dividend. Their growth story has been solid as well with 16 years of consecutive dividend raises. In fact, their dividend has increased by a total of 183% since 2008.

According to a back-test using portfolio visualizer, your income would have grown significantly with an initial $10,000 investment. Starting from 2008, your income would have grown from $500 to over $2300 with dividends reinvested! The dividend CAGR (compound annual growth rate) over the last five year period has only been 2.74% but I do see this number rising as the overall revenue continues to increase.

The closest performance competitors are Atria Group (MO) and British American Tobacco (BTI) so we will be doing a quick comparison against these two. In terms of total return, PM has vastly outperformed in the last five-year period. Over most other time horizons, BTI seems to have the worst performance of the bunch.

In terms of dividend growth, MO has increased their dividend a by a larger amount over the last five years. However, I do think that PM will be able to increase their dividend soon as match MO’s level of raises. Especially when management is able to reach that milestone payout ratio of 75%. I think the growth of Zyn and IQOS also makes this very likely over the course of 2024.

Valuation

For reference, the Wall St price target for PM shares sits at an average of $108.53/share. The high is $130/share and the low is $85.50/share. Using a DCF (discounted cash flow) method, we can determine a rough estimate of fair value for shares of PM. I did manage to pick up shares last time it traded around the $85 range but seeing the recent growth, I do not think this is likely.

The current P/E sits at 15.5x in relation to the 5-year average P/E of 16x which indicates a slight discount. EPS is projected to be 6.50x by year end of 2024. Combine this with an expected EPS growth of 4%, we can determine that a fair value is about $96.57/share. This would represent a slight upside of about 2.6%. I think a 4% EPS growth estimate is a bit more of a realistic input here for our calculation if we take a blend of historical growth and the projected growth. I do think that the growth of Zyn and IQOS will fuel higher returns, but I remain conservative in my outlook until next quarter’s numbers are reported.

If anything, I plan to buy more PM throughout 2024 to increase the income level it provides. Growth to the higher end of the price target range would be welcomed, but for now I plan to continue building my income. Increasing my share count will also expose me to benefits from the continued expansion and growth.

Risks

One major concern for PM in the industry as a whole is the risk that comes with regulations and active advertisements opposing the products that PM sells. There was $8 billion spent throughout 2022 on ads to stop smoking. This will always be an ongoing challenge for PM. So far, the demand has still remained for their products, but who’s to say that will always be the case.

PM is also dealing with a bunch of lawsuits where people are asking for billions of dollars in damages. This again is another one of the things these “sin stock” companies have to deal with. If PM doesn’t win these cases, it might temporarily hurt how much money the company brings in and ultimately effect the stock price.

On top of all this, PM is in a really competitive industry. Even though PM has been good at keeping up with what people like, it’s not guaranteed to last forever. If PM doesn’t stay in tune with what consumers want or they don’t continue to adapt, it could lose customers to other companies such as the previously mentioned BTI or MO. Losing market share will ultimately slow growth and impede progress.

Takeaway

As the company expands its product portfolio beyond traditional tobacco, it addresses ethical concerns associated with “sin stocks” while recognizing the enduring value of the industry. The financial performance, highlighted by an exceptional 20% growth in adjusted earnings per share and record-breaking quarterly highs, underscores PM’s resilience and strategic prowess. Key products, such as ZYN and IQOS, showcase significant growth potential, especially in the U.S. market.

The dividend aspect of PM adds an attractive dimension to its investment appeal, with a current yield of approximately 5.5% and a commitment to managing the payout ratio. The company’s solid track record of dividend increases is over 16 consecutive years. Comparisons with competitors Atria Group and British American Tobacco illustrate PM’s outperformance in total returns and suggest promising growth prospects.

While PM faces industry challenges, its commitment to innovation, diversified product offerings, and strong financial performance make it a compelling player in the evolving landscape of tobacco alternatives. So far, I like the job that PM has done adapting to the market.