Philip Morris: An Immune Dividend – Philip Morris International Inc. (NYSE:PM)

Introduction

The economic turmoil currently engulfing the world from the coronavirus has left many investors concerned whether their dividends can withstand these turbulent times. These concerns are especially important for companies such as Philip Morris (PM), as the strength of their dividend underpins virtually all investment theses and the overall attractiveness of their shares. Even though this strength may be tested in the coming year, thankfully they appear healthy enough to traverse these challenging times.

Dividend Coverage

When assessing dividend coverage, I prefer to forgo using earnings per share and use free cash flow instead, since dividends are paid from cash and not from “earnings”. The graph included below summarizes their cash flows from the last three years:

Philip Morris notes 1

Image Source: Author.

During the last three years their free cash flow and dividend coverage has continuously improved, with the latter averaging 118.56%. This indicates that their dividend is completely funded through their organically generated free cash flow, which is a very positive sign, especially as it partly stems from their operating cash flow growing and not simply capital expenditure reductions.

Whilst their history is clearly positive and provides a solid reference point, going forward their future will ultimately determine whether shareholders will see dividend reductions. Currently one of the most significant and known impacts stems from the strengthening USD. Since their sales and thus revenue is sourced from outside of the United States, the recent surge in the USD index creates an immediate headwind to earnings. Naturally the exact impact to their earnings will differ as their exposure is likely different than that of the USD index, however, it still provides a useful reference point for estimations. The graph included below displays the USD index for the last three years and it can observed that the index averaged around 97 during 2019 and currently sits at around 102, which is a 5% increase.

USD Index

Image Source: Market Watch.

When announcing their results for the fourth quarter of 2019 they provided guidance for operating cash flow of approximately $10.5b and capital expenditure of approximately $1b in 2020. When these are combined, it provides guidance for free cash flow of approximately $9.5b. If their operating cash flow was to drop 10%, which is twice the estimated previous impacts from currency movements, whilst their capital expenditure remain static, it would still result in free cash flow of approximately $8.45b. Based on their current outstanding share count of 1,555,911,930, their dividend payments should amount to approximately $7.282b for 2020, which indicates their dividend coverage would still be a solid 116.04% in this scenario. This indicates that even if unfavorable currency movements wipe out 10% of their operating cash flow, they will still have excess dividend coverage to provide a safety net in case the economic impacts of the coronavirus further harm their earnings.

Until more time as elapsed and thus provided actual data on the impact to their cigarette volumes, it would be difficult to estimate as the current situation is unlike anything in recent history. Although given their strong pricing power, holding everything else constant, even a fairly large impact should be significantly mitigated through higher prices. When it comes to currency movements, it should be remembered that they fluctuate across time and that the USD cannot continuing strengthening perpetually into the future.

Financial Position

Even though their dividend coverage should remain adequate even if their earnings are negatively impacted, their financial position will also be instrumental in ensuring that their dividend can outlast this pandemic. The two graphs included below summarize their financial position from the last three years:

Philip Morris cash & debtPhilip Morris leverage ratiosPhilip Morris notes 2

Image Source: Author.

The first and most obvious factor that may concern some investors is their negative debt to equity ratio that stems from their balance sheet carrying negative equity, which means their liabilities are higher than their assets. Whilst this undoubtedly sounds concerning on the surface, in reality it has minimal impact on their ability to remain a going concern and thus support their current dividend payments. I have discussed this topic in greater detail in a previous article and to keep the bottom line brief, their ability to service their debt and liabilities is of far more importance than the accounting book value of their assets to their liabilities, especially since they operate in a noncapital intensive industry.

Once moving past this point it becomes apparent that whilst their financial position is not pristine, it still entered this tough period of time in a stable and strong position. Their net debt to EBITDA and operating cash flow ratios of 2.05 and 2.40 respectively, are both safe and stable. Their interest coverage of 18.97 is quite high and indicates they have no issues servicing their debt and thus they could theoretically handle increasing debt if required to temporarily fund a gap in their dividend coverage. This is further supported when their current ratio of 1.09 is combined with their $6.861b cash balance, as it appears they have ample liquidity to mitigate any possible disruptions cause by coronavirus related lockdowns or financial system turmoil.

Conclusion

Thankfully they entered this crisis well equipped with solid dividend coverage and a stable financial position that has ample liquidity. This should give them the ability to traverse any temporary impacts from currency movements and coronavirus related interruptions. Given their shares are sporting a dividend yield well over 7% as of the time of writing, I will maintain my bullish rating as I believe this will be maintained and thus offers investors an excellent source of income in times of uncertainty and turmoil.

Notes: Unless specified otherwise, all figures in this article were taken from Philip Morris’ 2019 10-K and 2017 10-K SEC filings, all calculated figures were performed by the author.

Disclosure: I am/we are long PM. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Be the first to comment

Leave a Reply

Your email address will not be published.


*