Philip Morris expects $1.2 billion in profit from smoking alternatives

 Philip Morris International is increasing its investment in smoking alternatives to expand sales to more countries, aiming next year to lead the tobacco industry into reduced-risk products that may eventually replace traditional smoking.

The maker of Marlboro has become "increasingly confident" that it will reach the upper end of its expected range, with the business projected to add $700 million to $1.2 billion in profit in 2020, CEO André Calantzopoulos said Thursday in Lausanne, Switzerland, during an investor presentation. The company plans to invest $1 billion this year in what it calls next-generation products, bringing the total to $1.2 billion.

Philip Morris is throwing more money behind its iQOS heat-not-burn tobacco device, escaping competition from British American Tobacco and Japan Tobacco. Philip Morris expects to have its products on store shelves in 20 markets by the end of this year, with plans to expand sales to as many as 35 countries next year. With $1.5 billion earmarked for reduced-risk product development next year, the tobacco manufacturer is adamant that smokers prefer heat-not-burn technology in electronic cigarettes because it feels more like smoking.

"We are more confident than ever that these products have the potential to fundamentally change our business," Calantzopoulos said.

'In Earlier Years'

The iQOS uses heated tobacco called HeatSticks, which are similar to a rechargeable electronic device cut in half. The New York-based Philip Morris said it expects to produce over 32 billion HeatSticks next year, up from 7 billion this year, and it could produce 50 billion HeatSticks by 2018, which have advantages over cigarettes because they are new and in some countries taxed at lower rates, the CEO said. The production costs are in line with regular cigarettes, and the next-generation business should approach breakeven in 2017.

More than 100 million smokers have switched to iQOS across markets in Japan and Italy, according to the company. "We are still in very early stages," said Philip Morris's CEO.

As smoking rates decline in developed countries, the race to replace cigarettes is putting pressure on the tobacco industry. Philip Morris estimates that global cigarette consumption is declining by 2% to 2.5% annually.

'Unclear'

"It is still unclear which products or categories will ultimately prevail," said Rupert Wilson, an industry analyst who advised investors at a conference in Brussels on Wednesday. "Someone will eventually bring a product out that is a qualitative leap. Who will do that? I don't know."

Philip Morris's stock fell 0.7% to $98.71 on Thursday. The company's stock price has risen 13% since Wednesday's close.

The industry's growth slowdown may prompt consolidation, with Imperial Brands PLC being the most likely target, analysts said at the conference. Imperial is one of the few tobacco companies that have indicated that the heat-not-burn market does not look appealing and is focusing on electronic cigarettes instead. It is also the smallest of the four major tobacco companies operating on a global basis, although it has expanded in the U.S. with the acquisition of Winston and Kool brands. Imperial said Thursday that it expects to meet its full-year profit targets.

"Imperial has the weakest portfolio, so you have to say they are the most likely to be acquired," said Jonathan fell, an investor at London-based Grey Park Capital, during the conference.