Abstract
Phillips Morrison International is one of the most iconic brand in the tobacco and cigarette industry. Rated as the most innovative company in the industry,over the years, Phillips Morrison has diverted their focus on emerging markets that account for 80% of the global demand,while the westernized consumers are being introduced to next generation products. However, the focus of the company remains in Asia Pacific region as it looks to target growing population of India, China and other Asia Pacific regions. Even on the financial terms,the company is performing better than its core rival, British American Tobacco company in the form of higher asset turnover and inventory turnover.
Overall, we confirm that the company is a lucrative acquisition target, though it might be available at an exorbitant premium rate. Additionally, increasing regulations and growing awareness amongst the tobacco consumption will be a factor that must be considered before the acquisition deal is finalized.
About the paper
The paper is commissioned to conduct comprehensive analysis for Philips Morris with the view point of the company’s acquisition. As part of this analysis, we will be equally focused on the financial standing as well as macro and business-wise analysis of the company’s prospects in the future and the level of synergies, the acquirer may project if it nods the purchase of the company. It is considerable that ignoring business and economic environment at the time of appraisal of the target’s appraisal, has been one of the most crucial issues in the arena of mergers and acquisitions. Therefore, we will put equal efforts on analyzing the financial standing and the economic environment, and will conclude this paper with a weighted discussion whether the acquisition will produce synergies in the current economic environment relating to the industry and the economy as a whole. Moreover, to generate comprehensiveness in our analysis, the financial position of the company will be accessed through liquidity and efficiency analysis for the year 2014 and 2015, where each ratio will be compared with that of the competitor company, British American Tobacco.
About the company
Founded in the year 1900, Phillips Morrison International is an American global cigarette and tobacco company and is one of the largest tobacco companies in the world. With the presence in 200 countries and hold over 15.6% of the total global market share, the company enjoys strong brand equity amongst the tobacco and cigarette consumer, with influential brand such as Marlboro and L&M in its portfolio.(Euromonitor, 2016)
The operational headquarters of the company are in Switzerland while the corporate headquarters are in New York, though in the United States, the company do not have parent operating as all its brands in the United States are owned by Altria Group, which until 2008, was holding all the brands and operations of Phillip Morrison. (Profile: Phillips Morrison International, 2016)
Despite of numerous lititgation and protests of health organizations, the company is positively responding to the challenge of falling cigarette and tobacco consumption by investing heavily on its brand development programs, innovation and new generation of products that are focused on the technology of heat-not-burn. The recent operational strategy of the company is focused on tapping opportunities and growing sales in Asian countries such as Bandladesh, China, India and Vietnam.(The Global Cigarette Industry, 2015)
Economic and Industry Analysis
Before discussing the financial attributes of the company and how it is performing relative to an industry peer, it is important to understand the macro-economic and industry related conditions citing the objective to acquire the company. Therefore, in this section, we will detail the macro-economic analysis relating to the consumer spending in the United States and a comprehensive discussion relating to the latest trends in the tobacco industry.
-Macroeconomic Country Analysis
The US economy continues to maintain its powerhouse status through efficient utilization of the available economic resources. While the physical and human capital in the economy in fully leverage because of the free market environment, the consumer consumption is now finally back on track after facing the turmoil of the financial crisis during 2007-08. It is considerable that while the Federal Reserve kept the interest rates at zero percent for almost a decade in order to the boost the business investment and consumption expenditure, the central bank of the United States, finally raised the interest rates in December, 2015. Post the increase in the interest rates, market analysts were expecting a significant slowdown(some even projected another recession). Even though the consumer spending data did indicate a slowdown by the end of 2015, however, the economic data for 2016 was very encouraging. According to the official data released by the Bureau of Economic Analysis(BEA), during the first quarter of 2016, the consumer Spending in the United States increased to 11383.20 USD Billion relative to 11330.70 USD Billion in the fourth quarter of 2015. (Bureau of Economic Analysis, 2016)
Important to note, consumer spending accounts for two-third of the economic activity in the United States and is largely supported by the labor market and their wage levels.Therefore,the decade long low interest rate regime allowed the businesses to expand and add more jobs and pay higher wages to the labor. (Mutikani, 2016) Accordingly, higher income also introduce higher saving, and it is this saving that is boosting the consumer spending now and is also projected to do so in the near future.
(United States Consumer Spending, 2016)
Market analysts are projecting that while the increasing consumer spending will be welcome by the Federal Reserve, however, the trend may not continue provided the central bank yet again announce the rate hike in the coming quarters.(Mutikani, 2016)
-Industry Analysis
Cigarette and tobacco industry continues to be one the most profitable industry of the world with a global volume estimated £450-£500 billion. By the end of 2014, the retail value of the cigarette and tobacco sold was estimated at $744 billion, with over 5.6 trillion cigarettes sold to more than a billion smokers worldwide. Till today, the cigarette and tobacco industry continues to be a substantial contributor to the economies of many nations, both directly and indirectly. (The Global Cigarette Industry, 2015)
Despite of increasing regulations and government sanctions, the global cigarette and tobacco sales are increasing and the pace is expected to grow year-after-year. According to the a private market research company, over the period of the next five years, the retail value of cigarettes and tobacco will increase by 29%.
(The Global Cigarette Industry, 2015)
Changing trend
During the recent decade, the industry has witnessed significant shift in the consumption pattern with 80% of the world demand being sourced from low and middle income countries.
Consumers in Western Europe and North America, have now started to show significant decline in the tobacco consumption, partly because of increasing health concern and partly because of increasing participation by the government against tobacco-free nation campaigns.
However, on the other hand, the consumption is increasing at an unmatched pace in emerging markets, like those in Asia and Africa, where tobacco and cigarette companies are taking advantage of the lax regulatory environments and ignorant behavior of the consumers towards health concerns relating to cigarette and tobacco consumption.
(The Global Cigarette Industry, 2015)
Next Generation Products
Even though the westernized consumers are now reducing their cigarettes and tobacco consumption, however, the industry participants are declining to succumb to this bearish trend and are spending huge amount on developing next generation products such as high quality e-cigarettes and other tobacco heating products and the companies have in fact started to experience the growth trend. During 2015, global sales of vapor products peaked at $61 Billion relative to $3.9 billion in 2014. (British American Tobacco - The global market, 2016)
Even the industry experts confirms that while the combustible market will be the major source of the industry’s profits for the years to come, however, by 2020, as more consumers diverts away from combustible smoking, new generation products will account for the majority of that growth in the industry. (British American Tobacco - The global market, 2016)
The Future
While there is no debate left that the consumers in the western countries are getting more inclined towards tobacco free habits and individual consumers are actually consuming fewer cigarettes, however, cigarette manufacturing companies are least concerned with this trend as 80% of the smoking population is another part of the world, i.e. Afric and Asia. Therefore, while cigarettes will continue to decline in Europe and America on account of tight government regulation and growing inkling towards tobacco-free living, a sustained volume growth is expected in emerging markets where lax government policies and population growth will drive the volume of cigarettes and tobacco sales. (British American Tobacco - The global market, 2016)
Even though countries like India, China and Bangladesh will be lucrative markets for the cigarette manufacturing companies, however, the companies will need to face regulation there too. This includes more coverage for health warnings on packs, strict restriction on smoking in public and other kind of bans related to the sale of tobacco products at particular places. For instance, the Indian government recently mandated the cigarette manufacturing companies to cover 85% of the pack with a health warning(Kalra,2016), while Australian and UK government has included in plain packaging.(Maynard,2016)
Therefore, these regulations will have unintended consequences where measures such as warning on packages, exorbitant excise duty and other factors can affect the growth volume projected by the market analysts. However, even under the environment of strong regulations, the companies can surely expect an noticeable growth in sales volume in emerging markets while westernized consumers will turn towards new generation products.
Financial Analysis
In this section, we will analyze the financial standing of the company with an eye ball view of the working capital management policy and asset management policy of the company using the tool of the liquidity ratio and efficiency ratios. The outcome of these ratios will help us in understanding the amount of efforts the acquirer will require to put into the restructuring of the company’s organizational architecture. As already indicated in the introductory section, each ratio will be compared with that of the competitor entity, British American Tobacco.
-Liquidity Analysis:
a)Current Ratio: Current Assets/ Current Liabilities
b) Quick Ratio: (Current Assets- Inventory )/Current Liabilities
(Mackenzie)
As noted from the above table, we can see that over the year time, the liquidity position of the company has improved marginally, though it lags behind its global rival, British American Tobacco Company. Beginning with the current ratio, the ratio multiple increased from 1.02 to 1.03 on account of higher proportionate increase in the current asset base(increased by 2.08%) compared to the current liabilities (increased by 1.81%). On the other hand, the competitor company, witnessed a higher increase in its current ratio multiple, which increased from 1.04 to 1.09 on account of 7.47% increase in the current assets while the current liabilities increased by 2.70%.
We also analyzed the liquidity position using quick ratio and found the similar trend as while Phillips Morris witnessed the multiple increasing from 0.46 to 0.48, the competitor company’s quick ratio multiple was found to be increasing from 0.57 to 0.62.
These trends confirm that even though Philips Morris is managing its liquidity position efficiently, but compared to its competitor, the company is lagging behind. However, we do not see any concern over the company’s ability to honor its short-term debt commitments.
-Efficiency Analysis
a)Asset Turnover Ratio: Revenue/ Total Assets
(Watson, 2011)
b) Inventory Turnover Ratio: COGS/ Inventory
Efficiency ratios will help us in analyzing as how well the company and its competitor, are using their asset base. (Atril, 2011) Beginning with the asset turnover ratio, as for Philips Morris, the multiple decreased from 0.85 to 0.79. This indicates that during 2015, the company generated lower revenue per unit of the asset base available. On the other hand, the competitor company also witnessed lower ratio multiple that decreased from 0.53 to 0.42. This confirms that while both these entities experienced a declining asset turnover trend, however, Philips Morris has been efficiently using its asset base comparatively to British American Tobacco Company.
Next, we analyzed the efficiency position using the inventory turnover ratio and found the decreasing trend with the multiple falling from 1.21 to 1.11.This indicates that it took more time for the company to sell its inventory during 2015 compared to the previous year. On the other hand. British American Company inventory turnover ratio remained fairly constant at 0.75 during 2015, however, since the ratio multiple was lower than that of Philips Morris, it clearly confirms that the latter company is more efficient in terms of inventory management.
Conclusion
Considering the overall outcome relating to macro-economic environment,industry analysis and financial analysis of the company, we assert that the acquisition of Phillips Morrison will be a lucrative buy as the tobacco and cigarette industry is poised for growth. Even though the industry is witnessing a consistent fall in the demand from westernized countries,however, with 80% of the total demand coming from Africa and Asia, the company is optimistic of consistent growth over the years to come. Addditionally, the company is also performing relatively well compared to its competitor, British America Tobacco and is using its asset base efficiently.
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Appendix:
Income Statement:
(Income Statement- Phillips Morris International)
Balance Sheet
(Balance Sheet- Phillips Morris International)
-Income Statement(British American Tobacco Company)
(Income Statement- British American Tobacco)
-Balance Sheet(British American Tobacco Company)
(Balance Sheet- British American Tobacco)
