Philip Morris International's CEO Discusses Q4 2012 Results - Earnings Call Transcript
Philip Morris International Inc. (PM)
Q4 2012 Earnings Conference Call
February 7, 2013 13:00 ET
Executives
Nick Rolli - Vice President, Investor Relations and Financial Communications
Louis Camilleri - Chairman and Chief Executive Officer
Jacek Olczak - Chief Financial Officer
Analysts
David Adelman - Morgan Stanley
Judy Hong - Goldman Sachs
Bonnie Herzog - Wells Fargo
Vivien Azer – Citi
Erik Bloomquist - Berenberg Bank
Jon Leinster – UBS
Chris Growe - Stifel Nicolaus
Chris Ferrara - Bank of America Merrill Lynch
Michael Lavery – CLSA
Thilo Wrede - Jefferies
Rogerio Fujimori - Credit Suisse
David Hayes – Nomura
Ann Gurkin - Davenport
Presentation
Operator
Good day, and welcome to the Philip Morris International Fourth Quarter 2012 Year End Earnings Conference Call. Today’s call is scheduled to last about 1 hour, including remarks by Philip Morris International management and the question-and-answer session. (Operator Instructions)
I will now turn the call over to Mr. Nick Rolli, Vice President of Investor Relations and Financial Communications. Please go ahead, sir.
Nick Rolli
Welcome, thank you for joining us. Earlier today, we issued a press release containing detailed information on our 2012 fourth quarter and full year results. You may access the release on our website at www.pmi.com.
During our call today, we will be talking about results for the fourth quarter and full year 2012 and comparing them to the same period in 2011, unless otherwise stated. References to volumes are to PMI shipments. Industry volume and market shares are the latest data available from a number of internal and external sources. Organic volume refers to volume excluding acquisitions. Net revenues exclude excise taxes. Operating Companies Income or OCI is defined as operating income before general corporate expenses and the amortization of intangibles.
You will find data tables showing adjustments to net revenues and OCI for currency, acquisitions, asset impairment, exit, and other costs, free cash flow calculations and adjustments to earnings per share or EPS, as well as reconciliations to U.S. GAAP measures which are posted on our website.
Today’s remarks contain forward-looking statements and projections of future results. I direct your attention to the Forward-Looking and Cautionary Statements disclosure in today’s presentation and press release for a review of the various factors that could cause actual results to differ materially from projections or forward-looking statements.
It’s now my pleasure to introduce Louis Camilleri, our Chairman and Chief Executive Officer and Jacek Olczak, our Chief Financial Officer who will join Louis for the question-and-answer period. Louis?
Louis Camilleri
Thank you, Nick and good afternoon ladies and gentlemen. As expected, we finished 2012 on a very strong note with fourth quarter organic cigarette volume growth of 2.9%; net revenues and adjusted Operating Companies Income or OCI both excluding currency and acquisitions increasing by 6.4% and 12.3% respectively; and adjusted diluted earnings per share growing by 16.4% excluding currency.
Our strong volume performance was partially flattered by some favorable inventory movements, which we estimate added some 60 basis points to our 2.9% growth rate. Cigarette volume for the full year reached 927 billion units, an increase of 1.3% on an organic basis. The solid performance reflects the breadth of our geographic coverage, our excellent balance between emerging and developed markets, and our superior brand portfolio.
The key volume drivers were the EEMA and Asia regions, where we realized organic volume growth of 4.6% and 4.2% respectively, which more than offset a 13.5 billion unit or 6.4% volume erosion in the European Union region, reflecting a decline in cigarette industry volume due to continued economic woes particularly in Southern European markets.
In 2012, we achieved strong market share performances across all four regions with gains of close to 1 share point in the Asia, EEMA, and Latin America and Canada regions, and an essentially unchanged share in the European Union region despite significant competitive trade loading in Germany at the end of the years. As a result our global market share excluding China and the U.S. increased by 0.5 percentage points to a record 28.8% in 2012. Our global volume and share performance should be solid in 2013 and we anticipate organic volume growth of up to 1% excluding the Philippines. Continued strong pricing across all four regions was the key driver of our revenue and OCI growth. Generating a favorable variance of $1.8 billion in 2012.
We incurred a slightly unfavorable volume mix variance, with positive volumes, stable brand mix and an unfavorable geographic mix. Indeed absent the Japan hurdle, our volume mix variance would have been positive which we view as a significant achievement. In addition we increased our investments in the business notably in Germany, Indonesia and Russia focusing in particular on our key brands in market field forces and infrastructures.
In 2012 net revenues grew by 5.6% excluding currency and acquisitions, on the same basis adjusted operating companies income increased by over $1.1 billion or 8.1%. These growth rates were at the high end of our mid to long term currency neutral annual growth targets of 4% to 6% and 6% to 8% respectively.
Our strong business results and our substantial share repurchase programs, enable us to increase our adjusted diluted earnings per share to a level of $5.22 in 2012 representing a growth rate of 11.7% excluding an unfavorable currency impact of $0.23 per share. We entered 2013 with strong business fundamentals and excellence trends and we’re optimistic on the prospects of our business. With the recent exception of the Japanese Yen exchange rates have generally stabilized compared to 2012 and we’re forecasting a currency headwind of approximately $0.06 per share in 2013 at prevailing rates. We must recognize however that currency rates remain volatile. Our reported diluted earnings per share guidance of prevailing exchange rates is in a range of $5.68 to $5.78 versus $5.17 in 2012.
This corresponds to a growth rate excluding currency of 10% to 12% compared to our adjusted diluted earnings per share of $5.22 in 2012. Thus we again expect to meet our mid-to-long term currency neutral annual EPS growth target in 2013. This would be the six consecutive years of achieving this target. This guidance factors in the expected impact of the disruptively large excise tax increase that took place at the beginning of this year in the Philippines. The new law increase the excise tax on premium price Marlboro and low price Fortune from 12 to 25 pesos and from 2.72 to 12 pesos per pack respectively.
In a response we have increased the recommended retail price per pack of Marlboro from 32 to 51 pesos and that of Fortune from 15 to 25.5 pesos. It will take several months before we can accurately gauge the actual impact of such pricing on total industry volume and on potential consumer down trading.
The volume impact however is expected to be considerable in a range of 20% to 25%. We nevertheless anticipate that the impact on our earnings will be marginal given our pricing actions. I would like to say a few words about one of the key regulatory challenges that we’re facing, the European Union’s proposed new tobacco products directives or TPD.
Let me emphasize at this stage, it is a proposal, the content of which still has to be approved by both the European Council of Ministers and the European Parliament. During this review process, it maybe amended and the final outcome remains uncertain. Once the consensus is reached by both the Council and the Parliament, the TPD has to be transposed into local laws by each member state. The European Commission has indicated that it expects that it will take through 2014 to reach an agreement and the full implementation will only incur in 2015 or even 2016.
The proposed TPD does not mandate plain packaging as was feared, but it does contain a number of proposals that we believe have no credible scientific basis and would be counterproductive. These relate both to products and their packaging. It calls notably for a ban on menthol and slimmer cigarettes and the introduction of 75% graphic health warnings. Menthol and slimmer cigarettes accounted for approximately 10% of European Union cigarette industry volume in 2012 though in markets such as Poland accounted for about one-third of consumption. We believe that such measures would inevitably lead to both an increase in illicit trade and a reduction in government revenues with no benefit to public health. Rest assured that we will do everything in our power to ensure that reason prevails and that the obvious unintended consequences of the current draft do not materialize.
As mentioned earlier, we expect to achieve organic cigarette volume growth, excluding the Philippines in 2013. Strong volume growth in the EEMA regions and the other Asian markets is forecast to more than offset continued volume declines in the European Union region, where no significant overall improvement is foreseen until the current high levels of unemployment are meaningfully reduced. Our key premium brands Marlboro and Parliament are performing strongly, as volume and share are expanding across a wide range of geographies. Our overall brand portfolio is in excellent shape with a strong complementary presence in profitable mid and low priced segments.
The global excise tax environment remains reasonable with the obvious exception of the Philippines and the pricing environment continues to be favorable. Pricing will again be the key growth driver of our earnings. Some 75% of our anticipated pricing variance in 2013 upon which our guidance is predicated has already been implemented or announced. The Asia, EEMA, and Latin America and Canada regions are forecast to generate strong OCI growth again this year, while we expect to be able to maintain our current high level of profitability in the European Union region, excluding currency.
Our brands are performing very well with 8 of our top 10 brands increasing volume in 2012, excluding the Japan hurdle. Arguably, our greatest achievement in 2012 was the continued growth of Marlboro with its architecture firmly in place complemented by the new campaign and the continued rollout of an array of consumer relevant line extensions across the Flavor, Gold, and Fresh lines, Marlboro continued to expand its share on a global basis to reach 9.3%, excluding China and the U.S.
For the first time, since the 2008 spin Marlboro grew share in all four regions underscoring its enhanced brand equity, continued relevance, and renewed vitality. Above premium price, Parliament achieved double-digit volume growth last year to reach a total of 43.4 billion units. This excellent result was driven by its superb performance in Turkey, in Russia, and across Eastern Europe as well as in Middle East.
Parliament has a refined luxury image and has benefited from packaging upgrade and the launch of the industry’s first ever re recessed filter capsule product in Korea. We’re also very pleased with the renewed strength of L&M in 2012. Volume grew by 4% to 93.7 billion units.
This growth was driven by increased availability in Egypt. The long awaited turn around in Russia, a strong performance across the bakkens, shared gains in Thailand and a higher volume in Turkey. In the European Union region, L&M continued to grow share in this five most important markets, namely Slovakia, Poland, Belgium, Germany and (inaudible). However this was offset by a shared decline in markets in the Southern part of the Europe largely compensated by share gains on Chesterfields. On a regional basis, L&M share was stable at 6.6% last year.
Our leading position and our strong share growth momentum in Indonesia give us a unique position in the global tobacco industry. Based on an expanded Nielsen coverage, we have updated our market data on Indonesia. In 2012 we estimate that the total cigarette industry volume increased by 8.2% to 303 billion units driven by favorable demographics and a strong economy. We expect continued strong industry volume growth in a range of 5% to 6% going forward.
Our volume search by 17.5% last year and we expanded our market share from 32.8% to 35.6% a gain of 2.8 share points. Our strong premium skewed portfolio led by some Sampoerna A and our superior national distribution was reinforced by favorable retail price points.
I would also like to highlight our strong performance in two email markets, our volume in Russia increased by 3.8% last year while total industry volume declined an estimated 1.3% over the same period driven by higher prices. In 2012, we gained 0.5 percentage share points, thanks to the strength of our broadly based portfolio and investments in marketing and sales. The key drivers of our market share growth were above premium parliaments, mid-priced L&M and low price Bond Street and Next. Importantly, we improved our position in the growing slimmer diameter segment.
Last autumn the Russian parliament approved excised tax increases for 2013 in-line with it's previously published plans. Subsequently we registered new retail prices with increases of 6 to 7 rubles per pack across our portfolio. In Turkey, total cigarette industry volume grew by 8.8% last year to 99 billion units driven by a reduction in a listed trade, trade loading in the fourth quarter of 2012 ahead of a full seen excise tax and price increase. A weak fourth quarter 2011 growth in the adult population and the strong economic environment. Our volume increased by 12.7% last year and we expanded our market share by a further 0.9 points to 45.7%.
At the same time we improved our mix behind the growth of premium parliaments and mid-priced (inaudible). In January we increased our retail prices by 1 Turkish Lira per pack and responded to the excise tax increase that was announced by the government. The new excise tax regime now includes a specific element for the very first time. In contrast the business environment in the Southern part of Europe remains very challenging as illustrated by Italy where unemployment reached 11.1% in November 2012, 1.7 above the prior year level.
In 2012, Italy’s cigarette industry volumes declined by 7.9% as adult smokers impacted by a reduction in purchasing power switched to lower taxed fine cut products and to illicit trade, which grew by some 40% and 80% respectively. However, during the year, the government reduced the tax differential between fine cut and cigarettes. Consequently, the growth of the fine cut category slowed to less than 2% in the fourth quarter when cigarette volume declined by a more moderate 4%.
Despite this challenging environment, our brands performed strongly in Italy. Marlboro grew its cigarette market share by 0.6 points to 23.1%. The growth accelerated in the fourth quarter when its share increased 1.3 points to 23.5%. We successfully launched Philip Morris Selection in the growing international low-priced segment at the beginning of 2012. It achieved a 0.5% share for the full year and 0.8% in the fourth quarter. Finally, Chesterfield in addition to holding its own in the cigarette category obtained a 23.5% share of the fine cut category.
While revenue growth remains the key to success in our business, we continue to be very focused on cost controls and productivity gains. Our adjusted Operating Companies Income margin increased in 2012 from 44.1% to 45.2%, excluding currency. This improvement reflects not only higher pricing, but also limited cost increases, our success in surpassing our $300 million one year productivity target and our continued efforts to optimize our manufacturing footprint. This year, we are targeting a further $300 million in productivity savings to help offset expected moderate increases in lease and direct materials as well as higher clove costs. While our business continued to generate growing amounts of cash from higher earnings, our free cash flow of $8.4 billion in 2012 was down $1.1 billion or 11.6%, excluding currency. This decline was attributable to higher working capital requirements of $1.7 billion as well as a $220 million increase in capital expenditures.
The working capital increase was primarily driven by Indonesia, where our business growth led to higher tobacco leaf and finished goods inventories and where we took advantage of a larger, but admittedly significantly more expensive clove crop to build stocks for future business growth. In addition, we needed to replenish our global tobacco leaf stocks following our unexpectedly large cigarette sales in Japan in 2011. The increase in capital expenditures is attributable in particular to production capacity increases in the Asia and EEMA regions.
We anticipate a strong increase in our currency neutral free cash flow in 2013 though we do plan further increases in capital expenditures related notably to additional capacity in Indonesia and to the establishment of next generation products manufacturing capacity. In addition, as has been the case historically, forestalling related inventory requirements can fluctuate significantly and are difficult to forecast accurately. However in 2013, we project that our cash flow growth will exceed that of our earnings growth.
As you can see on this chart since the 2008 spend, we have transformed the higher proportion of our growing net revenues into free cash flow than any of our consumer products in tobacco industry peers. In September last year, we increased our dividend by a further 10.4% bringing the cumulative increase since 2008 to 84.8%. We initiated a new three-year $18 billion share repurchase program in August of 2012. Last year, in total, we spent $6.5 billion to repurchase 74.9 million shares.
We remain committed to a balanced program of returning cash to our shareholders through dividends and share repurchases and we target share repurchases of 6 billion in 2013. In conclusion, we expect to deliver strong results again in 2013? A diluted earnings per share guidance is $5.68 to $5.78, this corresponds to a 10% to 12% growth rate excluding currency, compared to our 2012 adjusted diluted earnings per share of $5.22. This is fully in-line with our mid-to-long term currency neutral, annual EPS growth targets which we have achieved or surpassed every year of our existence as an independent public company.
The excise tax and regulatory environment we believe are manageable. The pricing environment remains favorable and we have already achieved 75% of the pricing that is baked into our 2013 guidance. We forecast organic volume growth this year excluding the Philippines. We have strong growth momentum, Marlboro gained share in all four regions, parliament achieved double digit volume growth and our business in the Asia and the EMO regions is in great shape. The EU region remains fragile but we certainly do not anticipate a deterioration thus is the overall consumption trends we observed in 2012.
We forecast strong free cash flow growth excluding currency this year and we remain committed to generously rewarding our shareholders through attracted dividends and substantial share repurchase programs.
Since March 2008, we have returned the total of nearly $50 billion to our shareholders and repurchased 23.2% of the shares outstanding at the time of the spend. Thank you for your attention. Jacek and I will now be happy to answer your questions.
Question-and-Answer Session
Operator
(Operator Instructions). Our first question comes from the line of David Adelman with Morgan Stanley.
David Adelman - Morgan Stanley
Louis first a question on the guidance and fundamentally it's whether are you being conservative in your initial outlook because it's early in the year or are there some things to be mindful of particularly this year and the reason I ask is it that in the year just concluded is it 11.7% underlying local currency, EPS growth and that was despite the Japanese hurdle which you’re not going up against this year.
Louis Camilleri
That’s correct David. No I don’t see anything out there that is of concern to us, in the Philippines we have mentioned for some time and that’s baked into our guidance. I have to say that Southern Europe as I mentioned in my remarks continuous to be fragile, as opposed to what others may have said we have actually have not detected a deterioration in trends. In fact if you look at fourth quarter trends they were better in every single market in the European Union with the exception of Spain and Italy whether you look at it from a total cigarette point of view or cigarette including OTP. France has been a slightly weaker because of the price increase but we have detected a significant improvement in the trend from October, November, December and even January now.
So, the watch out is Southern Europe elsewhere we’re in great shape I think David. I mean Asia and EEMA are growing strongly and growing in a quality manner. If I look at EEMA alone and you look at their growth, 60% of their growth came from pricing and 40% from volume mix which is quite a phenomenal achievement and if you go to Asia pricing was 70% but volume mix contributed 30%. So I would say we’re in very good shape, you may call our guidance conservative I think at this time of the year we always have to express caution and we will see how the year unfolds but we certainly have momentum going forward.
David Adelman - Morgan Stanley
Okay. And then maybe if I could one other quick question, you have obviously a major competitor domiciled in Japan and with the weakness in the yen, there is presumably some prospect that, that competitor could elect to be a little more price aggressive than otherwise would be the case? Is there any evidence of that’s materializing to any extent to this point?
Louis Camilleri
No, evidence whatsoever David. In fact, I was very encouraged that they increased their earning guidance to reflect the weakness of the yen. So, that’s a positive sign. And I would say that in terms of pricing, things are looking pretty good.
David Adelman - Morgan Stanley
Okay, great. Thank you.
Operator
Your next question comes from the line of Judy Hong with Goldman Sachs.
Judy Hong - Goldman Sachs
Thanks. Good afternoon everyone.
Louis Camilleri
Good afternoon Judy.
Judy Hong - Goldman Sachs
Louis, just on your volume for 2013, so if I understood you correctly, you said Philippines down 20%, 25%, so that’s probably a negative 2, 2.5 points of an impact. If we assume that the underlying volume trend ex-Philippines kind of stay what we saw in 2012, up 2% ex-Japan, is the kind of all-in volume outlook for 2013 close to flattish?
Louis Camilleri
As I said in my remarks, we see organic volume growth of about 1% this year excluding the Philippines, if you include the Philippines, your calculation was right as to the impact of the Philippines was down about 1.5%. We have had significant price increases in a number of markets. Russia has been a significant price increase. It’s being implemented in the market as we speak. So, it’s hard to gorge at this point what will happen in terms of volume. We don’t anticipate a dramatic deterioration at all, but it remains a watch-out. Southern Europe as I said we believe that the trends are likely to remain the same as last year. There could be upside Judy, but it’s a bit early to call that, we will see as the year unfolds and certainly when Jacek takes you through the April – in April through the first quarter, we should have a much better read of Europe. So, that’s where we stand, Judy.
Judy Hong - Goldman Sachs
Okay. And then Louis if I just kind of take a step back and I look at your portfolio from a geographic exposure perspective, you have got now about 55% of the profit coming from sort of the non-OECDs and excluding Japan and Europe and those markets are growing profit double-digits. So, when I think about your long-term growth algorithm, 6% to 8%, if you can maintain that 55% of your business growing at a double-digit, you probably only need flattish kind of growth in Europe and in Japan from an operating profit perspective. So, I guess my question is kind of is there upside to that Europe, Japan profit growth number going forward or is there downside to kind of that double-digit growth from a profitability perspective on these non-OECD markets?
Louis Camilleri
No, I think your analysis is very accurate, Judy. We have always said that we feel that European Union one day will come back, but we need to see some meaningful assets to get the employment rates back up. And the economies remain fragile and there is still quite a lot of restructuring to do, but we are somewhat optimistic that government seemed to be now weary of the austerity push and are trying to focus a bit more on employment. So, yes, if the EU were to improve that would obviously increase our growth capacity.
As to Japan, I would say one of the highlights for me anyway of Japan in 2012 was that the market was relatively stable, relative to the secular decline trend that we had witnessed previously. So, we enter the year with a pretty strong market. Our share as you noticed increased sequentially from the third to the fourth quarter, so we hit 27.7% which admittedly was lower than our exit share in 2011 but if I look at our January share in Japan it was 28.3%, so Japan volume I think has, is potentially stronger than it has been in the past but clearly income will come from pricing and in terms of pricing we’re a follower in Japan. We try to lead once and clearly we need to follow.
Operator
Your next question comes from the line of Bonnie Herzog with Wells Fargo.
Bonnie Herzog - Wells Fargo
My first question is on net price realization. You mentioned you know key growth driver this year is your price realization, it looks like you generated maybe around 4.5% net price realization on an organic basis last year which is very positive but I think down from historical net price utilization of maybe mid-to-high single digits. So I guess I would like to understand what gives you the confidence that you can reaccelerate price realization this year you know given the tough macroeconomic environment and I think you mentioned you have already put 75% of your pricing actions in the market. So I’m just trying to understand the probability of these actions sticking and also love to hear from you Louis if this is typical that you have typically started a year with this much pricing action already in place.
Louis Camilleri
I believe you know if I look at the last three years we have sort of hovered around 60% to 70%, this is 75% so we feel we’re in a pretty good shape and yeah pricing has been the driver and we will continue to be the driver of our growth. There is not much I can add to that Bonnie as you know pricing is always a very delicate subject.
Bonnie Herzog - Wells Fargo
That’s fair but I guess that was helpful to understand that you have put more in place early on in this year than you have typically have, so that’s helpful. I guess I also have a question on Asian and specifically Indonesia very impressive growth as you highlighted for us. So, you know as I look back at some of my modeling work you know it looks like your profits in Indonesia can actually soon surpass the profits you generate in Japan. So my first question is you know what’s a realistic growth forecast for this market in Indonesia and then could you maybe touch on potential opportunities you have in Thailand, Vietnam and maybe other key markets in Asia that could be a nice surprise for us over the next few years.
Louis Camilleri
Well it clearly would be a lofty ambition for us to get Indonesia upto Japan in the very near future, I think one day yes that is very possible. You know it also relates to Judies question earlier, you know the market in Indonesia has been growing at more than 8% back in 2011 and 2012. This year we forecast a growth of 5% to 6%. I think that also translates into higher pricing because cloth cost have increased significantly and they have increased for every player in the industry. We see our variable costs increasing by about 3.5% going forward and half of that, half the increase to total company relates to cloth cost so that will require pricing in Indonesia which may somewhat temporarily slow down the growth we have seen in the past couple of years. Having said that we continue to feel optimistic that we will continue to gain share, essentially all our brands gain share in 2012 so we have momentum.
So yes Indonesia is a jewel. As to the rest of Asia, I think we’re performing very strongly in various markets and of course China is still out there one day and the market still continues to grow.
Operator
Your next question comes from the line of Vivien Azer with Citi.
Vivien Azer – Citi
My first question has to do with the EU and then I fully appreciate that you are not expecting a deterioration and things seemingly are so bad already that seems fair enough on just from a macro perspective, but what gives you confidence that you won’t see an acceleration in illicit trade as the consumer remains cash trapped?
Louis Camilleri
Because if we look at the pricing environment in the EU, we don’t see a major acceleration, there has been equalization on fine cut. So, people – tax equalization on fine cut in number of places, so people are moving back to cigarettes as I showed in Italy in my remarks. Illicit trade continues to be a concern. Our census last year it was about 11.1% of consumption relative to 10.4% in the previous year. So, it’s grown. And our hope is that governments and we are doing a lot of work as you know we signed an agreement with the INTERPOL. There is work on tracking and tracing to ensure that we can fight the illicit trade as has been done successfully in other markets and most notably last year in Turkey.
Vivien Azer - Citi
Fair enough. That makes good sense. Switching gears to next generation products when we were in (indiscernible) in June, you mentioned that there were short-term clinical trials underway on your Phase 1 product are you able to give us an update on how those went?
Louis Camilleri
Not much I can say Vivien. So far all the results we have are extremely positive and the green lights are shining. So, we continue, but there is still a lot of work to be done on risk assessment as well as clearly on the regulatory front. In the meantime as I alluded to in my remarks, we will be starting investments in setting up manufacturing capacity to those products, so that tells you that we continue to very firmly believe in that.
Vivien Azer - Citi
Fair enough. And my last question have to do with plain packaging, I know Australia is a very small market for you, but could you give us your read on how plain packaging has affected that market?
Louis Camilleri
Well, as you know, it was implemented effective December 1, there was a bit of turbulence in the market. Retailers in particular found it very difficult to adapt. Some of our competitors were slightly out of stock. So, our share was actually quite strong in December, but all the daily sales we see and the research we’ve done there appears to be no change whatsoever in terms of sales levels, incidence, or brand choice. Having said that, it is still very, very early days. And we’ll see what happens over a long-term period. And I think other governments will watch the Australian example very carefully. And my sense is that wisdom would dictate that people would look at the Australian example before they take on this policy measure, which we believe will do nothing to help public health.
Vivien Azer - Citi
That’s great. Thank you very much.
Louis Camilleri
You’re welcome.
Operator
Your next question comes from the line Erik Bloomquist with Berenberg Bank.
Erik Bloomquist - Berenberg Bank
Good afternoon, Louis.
Louis Camilleri
Good afternoon Erik.
Erik Bloomquist - Berenberg Bank
If we could follow-up on the plain packaging issue in particular with respect to the status of the WTO and BIT challenges. And then I was curious with respect to the tobacco products directive, what implications in its current form does that have for Philip Morris’ NGP business? Thanks.
Louis Camilleri
Well, in terms of the BIT claim that is proceeding essentially according to schedule. We still feel that the merits of our case is very strong, but it will be a two-year process Erik. There is not much more than I can say on that. The arbitration panel has been formed. The procedural elements have been set up. And now there is a whole schedule of our claim being filed and then the responses from the government and then hearing et cetera but as I said it will be a two year process. On the WTO aspect that claim is proceeding. The very interesting thing is that there are some 31 countries that have asked for observer status including such major countries as China and I’m told that that is probably the highest ever level of countries that have asked for observer status which shows the interest there is on this issue in terms of plain packaging and the violation of trademark rights.
With regard to the European TPD on NGP is still early days Erik, as you know they are either tobacco products or pharmaceutical products. So it doesn’t in any way curtail the ability of the company to do NGPs. But frankly the thresholds that are within the proposal I think are subject to considerable debate and my sense is that before that proposal is put to bed things are likely to change because essentially the thresholds were based on existing nicotine replacement therapies as opposed to new products.
Erik Bloomquist - Berenberg Bank
And then with respect to Russia, I mean that appears to be quite a robust market in terms of up trading, you know favoring Parliament in Marlboro but I was wondering how should we think about the evolution of the market through the remainder of 2013 with respect to lower price. Are we seeing the market separate into premier oriented and then discount or how is that developing from a Philip Morris point of view? Thank you.
Louis Camilleri
So the low segment Erik continues to decline, I think over the last couple of years it has declined by 10 share points and that’s moving up to what we call value made and premium more recently premium as sort of been flattish. As you know there has been quite a significant price increase as I mentioned earlier prices are actually coming into effect in the market as we speak. The percentage gap between low value and premium actually is going to narrow and empirical evidence would suggest from various other markets that when the percentage gap comes down or narrows that generally actually helps up trading. So we don’t really anticipate any change in the trend and we certainly anticipate continued shared growth with Parliament. With regard to Marlboro as you know we have put in a number of new products to enhance the brand equity of the brands, we said it would take quite a long time. Share has been pretty well flat over the last four months which is already an improvement over the erosion the brand has suffered in the past, the consumer research we have is clearly very positive virtually on all fronts but before that translates into share growth I think it will take some time. In the mean time we will continue to work that brand because we honestly believe that it does have considerable untapped potential in this very significant market.
Operator
Your next question comes from the line of Jon Leinster with UBS.
Jon Leinster – UBS
Just going back to the European, with the increase and the unemployment and the rates declined that we have seen in volumes, do you think there has been a change in pricing last 50 and would that change again if illicit trade and (inaudible) was brought under control?
Louis Camilleri
I don’t think there has been a significant change in price elasticity per say Jonathan, I think it's really purchasing power has declined quite considerably so people are looking for cheaper alternatives. Governments have noticed that and they are trying to both equalize the tax burden on fine cut and cigarettes to protect their revenues and also there is clearly a renewed effort to try to fight contraband and especially the advent of illicit rights and counterfeit. It’s actually quite ironic that the European Union Tobacco Products Directive, when tobacco product represents some 11% of consumption in Europe, they want to ban slims and menthol that are about 10% of consumption. That’s the size of the French market or the Spanish market, in fact slightly higher. So, there is a lot to be done on this TBD, because clearly illicit trade everybody has to get together to fight it.
Jon Leinster - UBS
Okay. Certainly, just regarding the exports are going to Japan, can you just remind us what your hedging policy is on the transaction event?
Louis Camilleri
Well, we try to hedge it occasionally. And this year, we have hedged 50% of our exposure. We did it several months ago, so obviously at attractive rates relative to the spot rate. Nevertheless, we still have 50% exposure on the remaining balance, but I am glad we at least have hedged 50%.
Jon Leinster - UBS
But that’s just a transactional exposure, certainly all the translational you mean?
Louis Camilleri
Yes, we know about it, we know about hedge transaction.
Jon Leinster - UBS
Correct. And lastly, the trade load in the fourth quarter, I think you mentioned out there just sort of 60 basis points. So, I mean roughly speaking that’s sort of $45 million to $50 million in sales kind of (still confident) into profits?
Louis Camilleri
Yeah.
Jon Leinster - UBS
Yeah, okay, thanks very much.
Louis Camilleri
It varies by the market, but that it’s principally in the EEMA markets.
Jon Leinster - UBS
Great, thank you very much.
Louis Camilleri
Thank you.
Operator
Your next question comes from the line of Chris Growe with Stifel Nicolaus.
Chris Growe - Stifel Nicolaus
Hi. Good afternoon Louis.
Louis Camilleri
Chris, good afternoon.
Chris Growe - Stifel Nicolaus
Hi, I just had two questions for you. The first one a bit of a follow-on there to Jonathan’s question regarding the inventory overall helped your volume in the quarter, but I think overall would it have been a drag on your EU volume in the quarter and could you quantify that effect in rough terms?
Louis Camilleri
In EU, it was essentially neutral.
Chris Growe - Stifel Nicolaus
Okay.
Louis Camilleri
The one thing that affected us was more in terms of share, because there was a lot of loading in Germany by some of our competitors. It was significant to give you a sense of the significance. Our January share in – our January share in Germany was slightly above 41%.
Chris Growe - Stifel Nicolaus
Okay. Okay, and then I have a follow-up question for you also about the EU and it’s just kind of a bigger picture question if you will. In the current environment that we are in where you have volumes going down at a more aggressive rate, you have had some pretty good price realizations still to help to offset that. I guess I am just curious maybe it’s just from a fixed cost standpoint or what you need to do to help keep profitability flat or even growing that market, do you need to do some sort of restructuring or asset work to try and keep that profit growth in that flat to up region if we are in this environment that we are in today?
Louis Camilleri
Well, first Chris, we don’t see a deterioration in the volume trends. And your question was premised on a sort of more aggressive down trend, which we really don’t see. And as I mentioned to Judy earlier, there maybe upside, but it’s a bit early to call. With regard to cost structure, we have always been very careful to ensure that we are as cost efficient as possible. Our European factories supply a number of markets. So, they are running at pretty good capacities. We have invested considerable amount of money in marketing and sales forces in Europe to gain share and we continued to gain share. If you recall and I think we highlighted this in our earnings release Marlboro was up in the European Union and its share actually accelerated in the fourth quarter but it was up for the first time since 2002. So we’re very encouraged by that.
Operator
Your next question comes from the line of Chris Ferrara with Bank of America Merrill Lynch.
Chris Ferrara - Bank of America Merrill Lynch
So just back to Japan, can you talk a little bit about I guess the Cadence of new products flow, because to your point market share increased sequentially while it's still down year-over-year. I guess we have fit a flattening out point on share do you think and how much does it relate to your new product flow relative to the competition in the market?
Louis Camilleri
Well definitely product innovation is key to gaining share in Japan, we think we have a pretty good program in place for 2013. Our launch is in 2012 we’re pretty successful, so we actually believe we can continue to gain share in Japan, you know we said that the exit share was the base on which to go forward you know that was probably an ambitious target because you know JT probably hadn’t gone back to it's normal share but certainly the January trend looks very favorable and given the product innovation we have going forward we see opportunity, as you know very well JT is embarking on a very ambitious program to move mile certainly to (inaudible) and we will see whether there maybe opportunities in there.
Chris Ferrara - Bank of America Merrill Lynch
Great and I guess just as a follow-up on the market, it's been a while I think for your point since you’ve seen it normalized volume number, I guess how would you characterize the sustainable market volume rate of decline in Japan at this point?
Louis Camilleri
Well you know last year if you our best estimate taking care of inventories et cetera while there was an underline decline of about 1%. And without any pricing we wouldn’t see why that would be any difference in that coming forward into 2013 which is clearly considerable improvement over the past.
Operator
Your next question comes from the line of Michael Lavery with CLSA.
Michael Lavery – CLSA
Just a question on your repurchase guidance, I realize it's early and it could certainly fluctuate but with currency being such a headwind last year it's a little surprising that your guidance would be less than you did already, was there some other, was there a factor in 2012 that would have helped to make that bigger or what should we expect for this year? Is it just a conservative starting number or how do you think about how those two compare?
Louis Camilleri
Well I don’t think I would call it $6 billion conservative but essentially we have premier program that’s $18 billion that makes it $6 billion a year. If we went to $6.5 last year it was a one point, we felt it stock price was clearly very undervalued, I think possibly because of some sort of regulatory concerns or profit taking, so we took the opportunity to buy more shares what we thought was a very attractive price. It's I think a very generous target, and we hope that we will be able to do the 6 billion this year.
Michael Lavery - CLSA
Okay that’s fair, and then just looking at your business in Korea, it looks like your 4Q share was a little less than your full year share but I know there is an uneven pacing there, can you talk a little bit about the trajectory there and what the competitive dynamics look like?
Louis Camilleri
Well it's slightly distorted because we took a price increase back in February if you recall, so clearly January, February we had a high share and we suffered after the price increase. However our share has essentially been flat at about for the last I would say seven months. So, in terms of share, we are in relatively good shape in Korea. What needs to happen in Korea is a reform of excise taxes and there are various proposals in legislature. As you know, there is a new government in place. And hopefully with taxes that hopefully will be adjusted for inflation every year that will give more flexibility in terms of pricing. And clearly we hope that KT&G will move prices one day.
Michael Lavery - CLSA
And then I realized obviously the politics are a little bit unpredictable, I mean in the meantime, do you have anything else that could bridge the gap like innovation pipeline or something else that could help share besides more narrow share gaps, price gaps?
Louis Camilleri
Yes, most definitely, we have a program in place to launch some pretty exciting new products as we did last year. So, our ambition is to gain share. Our profitability in Korea increased significantly last year, because of our price increase. And I think our brand equity remains very strong in particular though with Parliament. And as I mentioned in my remarks, the Parliament capsule product we think has a lot of promise.
Michael Lavery - CLSA
Okay, that’s helpful. And then in Indonesia, you share gains last year obviously were pretty significant, but you have several years where that’s been the case? And I love to get a sense for what a sustainable trajectory looks like? Is the source of share primarily the 20% to 25% of the category that’s small fragmented players, so that you have got a sort of a deep pool from what you can continue to draw or what are some of the dynamics there, what’s the source that you are sharing and what can it look like in the next few years?
Louis Camilleri
Well, that’s certainly one of the sources, especially as the government continues to narrow the various tax tiers in the tax metrics, but I would say that our major competitive advantage is the investments we have made in our distribution infrastructure and field forces and in terms of our brand equities. So, we feel very good about our share performance in the past and our future prospects for share growth. I would also say that because of the strength of the economy, there is clearly an up-trading trend and our share in the upper price segment is significantly higher than our total share of the market. So, we have then grown share growth built-in as those trends continue. And we see no reason why they should not continue. As you are probably aware, they dramatically increased minimum wage rates in Indonesia recently. So, clearly that will benefit the up-trading trend.
Michael Lavery - CLSA
That’s helpful. And then just one last question on the next generation products, I know an endorsement or approval or whatever the proper term is from the FDA would be sort of a passport to just about any market, but given the unpredictability of this administration in particular or just they don’t seem to be in any rush to support tobacco companies, so what are the options without that how big of a hurdle is it to have that, and are you able to get similar approvals in markets that you would want to launch in that wouldn’t necessarily need anything from the FDA to let you get a green light there?
Louis Camilleri
Well, clearly the FDA would be very helpful and we have engaged with the FDA, but it is not a pre-condition to launching these products elsewhere. We are in discussions with regulators in various jurisdictions. So, that is an ongoing effort that’s parallel to the one that’s going on with the FDA. FDA support will clearly be very helpful, but as I said it’s not a pre-condition.
Michael Lavery - CLSA
Thank you very much.
Louis Camilleri
You’re welcome.
Operator
Your next question comes from the line of Thilo Wrede with Jefferies.
Thilo Wrede - Jefferies
Good afternoon.
Louis Camilleri
Hi, Thilo.
Thilo Wrede - Jefferies
Two quick questions for you. First one in the Philippines, what’s your level of confidence for this 20% to 25% volume impact, if I remember correctly the volume impact in Japan was supposed to be somewhat turn out to be much less dramatic, so how confident are you that this will happen in the Philippines?
Nick Rolli
Well you know I would hope it would follow the Japanese example I think, the Philippines is doing well economically, worker remittance is continued to increase. So the macros look quite favorable, nevertheless it's a significant price increase. My concern Thilo is really the advent of contraband and as you know there is a lot of contraband product in other categories in the Philippines and also potentially tax avoidance by some of the other players which we have seen in the past. So, hopefully the government can plan down on that, they have said that they would have institute of very strict product tracking and tracing systems at the manufacturing end. Listen today as I said in my remarks it's a hard one to call, it could do better and if so I would be the first to be delighted.
Thilo Wrede - Jefferies
Fair enough. And then Louis when you look out for the year and you look at the macro headwinds and so on Europe if you look at the noise from plain packaging, you look at tax increases in the Philippines, you look at illicit trade in Europe and so on. Is this the most challenging environment that you operate in be it from a two operational perspective or just from a noise perspective since this spin off from Altria?
Louis Camilleri
I’m not sure that it's the worst. We have lived it with it for a little while, I would say that you know the strength of this company is irrespective of what’s thrown at us we have various points of leverage to meet our ambitions and that’s what makes this company great.
Thilo Wrede - Jefferies
And so you’re not concerned about all that noises out there.
Louis Camilleri
Of course I’m confirmed about it but I think we can overcome it and as you say a lot of it is noise as opposed to real action.
Operator
Your next question comes from the line of Rogerio Fujimori with Credit Suisse.
Rogerio Fujimori - Credit Suisse
I have one question about consumer up trading in emerging markets. Among your top non-OCD markets which non-OCD markets which ones are standing out in terms of positive variance in the premier share of the market. I recall Mexican, Indonesia stood out in the first half, first as if they remain the bright spot in Q4, are there any other markets that now are standing out? Thank you.
Louis Camilleri
You know if I look across the world essentially they all are growing up in terms of emerging markets. Clearly the ones you mentioned, Turkey, Indonesia, Mexico, Brazil pretty well everywhere at the moment. Philippines was somewhat distorted because there was trade loading by the competitors but we see if I look at Vietnam, Malaysia, you name it there is pretty well up trading across the board.
Rogerio Fujimori - Credit Suisse
And just one question about France, have you not see any sequential deterioration in volume trends. It looks like the total market was down 7% in Q4, any color would be appreciated. Thank you.
Louis Camilleri
Actually no in France you’re right, Q4 was down but it improved as the quarter essentially unfolded and in fact if I look at January total volumes were down 3.4% so that’s clearly an improvement over the fourth quarter which was distorted by the October price increase.
Operator
Your next question comes from the line of David Hayes with Nomura.
David Hayes – Nomura
Just in terms of the brands in pool and the infrastructure investment that you talk about in terms of the Be Marlboro success in Europe and then in Russia as well. How should we think about that in terms of that continuing into 2013? Was there a ramp up in ‘12 and that comes off a little bit or do we see another step change again in 2013? And the second question from me was just going back to Japan obviously no tax rise, JT seemed to allude to the fact they would try to get a price rise maybe still I just wonder whether you want to crack any comment about whether you think the environment – the regulatory environment there would allow for that and whether your guidance would assume any price rise in Japan or whether that would be upside to what you have outlined today? Thanks very much.
Louis Camilleri
You are welcome David. The first question yes, there will continue to be a ramp up that was in ‘12 and there is actually going to be what we forecast a considerable ramp up in 2013 of the Be Marlboro campaign and all the consumer engagement try to engage programs that we have as they are slowly rolled out across the world. In terms of JT, the partial privatization, I think nobody is quite aware of the timing and we’ll see when that happens. It may trigger JT’s desire to increase prices or enhance their ability to do so. If JT were to increase prices that will be terrific news and yes, there would be an upside.
David Hayes - Nomura
Okay, that’s great. Thank you very much.
Louis Camilleri
You’re welcome.
Operator
Our final question comes from the Ann Gurkin with Davenport.
Ann Gurkin - Davenport
Hello everyone.
Louis Camilleri
Hi Ann, the best for last.
Ann Gurkin - Davenport
Hi. I had a question regarding Russia and if Russia decides to ban smoking in public places, how do you incorporate that into your outlook, particularly in the second half for calendar ‘13?
Louis Camilleri
We don’t anticipate a major impact and it’s not at all sure there would be. There is a reading I think for February 12 of the tobacco control law and we will see what happens there, but we don’t anticipate any major shift in trend there.
Ann Gurkin - Davenport
Okay, great. And then I always like to ask about leaf cost and listening to your comments about expecting moderate increase in leaf prices in ‘13, is that trend in pricing in line with your expectations following your vertical integration move, is that falling within that kind of band of pricing expectations or do you think you need to make changes to vertical integration?
Louis Camilleri
No, it’s fully in line with our expectations. And there is not much I can add to that. I think the one that I highlighted that will be a cost driver is the clove cost. That’s the main driver. Leaf is certainly increasing at manageable levels and in line with our expectations.
Ann Gurkin - Davenport
That is great. Thank you so much.
Louis Camilleri
Thank you very much, Ann.
Operator
Thank you. That was our final question. I’d now like to turn the floor back over to Nick for any closing comments.
Nick Rolli
Well, thank you very much for joining us. That does conclude our call for today. If you have any follow-up questions, please contact the IR team. We are currently in New York today and tomorrow. And just as a reminder, our next presentation will be at the Consumer Analyst Group of New York or CAGNY Conference in Boca Raton, Florida on Wednesday, February 20 and that presentation will also be webcast. So, thank you again and have a great day.
Operator
Thank you. This concludes today’s conference call. You may now disconnect.
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