Philip Morris International Inc
NYSE:PM
Earnings Call Analysis
Q4-2023 Analysis
Philip Morris International Inc
The year 2023 was significant with HTU shipment volume reaching 125.3 billion units, albeit on the lower end of the targeted range. Challenges included delayed product launches in Saudi Arabia and Taiwan, and slower growth in Russia and Ukraine. However, adjusted in-market sales still flourished with a steady increase of 15% across the full year, signaling robust demand for IQOS Heat-Not-Burn tobacco units (HTUs). The fourth quarter saw a more modest growth in HTUs of 6%. Excluding Russia and Ukraine, the in-market sales growth was even stronger at more than 17%. This performance aligns with the broader commitment to smoke-free product alternatives, as evidenced by the success of the ZYN nicotine portfolio which surged by 23% in the fourth quarter and 17% overall in 2023.
A key driver of profitability has been the company's shifting focus toward smoke-free products, with IQOS leading the trend. Smoke-free gross profit saw an organic increase of 19%, significantly outpacing other segments and expanding the company's gross margin by 340 basis points. The adoption of IQOS, enhanced by the contributing performance of the Swedish Match acquisition, has borne fruit, with the latter's organic operating profit growing over 50% in Q4. The efficient scale-up of these products is expected to further bolster profitability and optimize manufacturing processes into 2024.
While the international cigarette market witnessed a decline by 2.4%, the company's cigarette shipments demonstrated resilience by restricting their decline to a modest 1.4%. Divergence in volume trends across different geographies indicated that the company's high-margin markets observed a decline, countered by better performance in markets where alternatives to smoke-free products aren't as prevalent. Despite such headwinds and inflationary pressures, the outlook for operating income remains optimistic, with expectations set within the compound annual growth rate (CAGR) target range of 8-10% for the period from 2024 to 2026.
Swedish Match, now under the company's umbrella, has delivered exceptional numbers in its maiden full year, with a top line growth of 26% in Q4 and 20% over 2023, outstripping initial ROI expectations. ZYN's growth outperformed projections, reinforcing the strategic benefit of the acquisition. Additionally, the relaunch strategy has efficiently penetrated 10 international markets, as the company works on building a robust global presence.
In the United States, the cigar segment pushed through to deliver strong revenue and profit growth, driven by assertive pricing strategies. Despite a fall in volume, likely due to competitor pricing actions, the category's volume share grew for the third consecutive quarter, emphasizing ZYN's premium standing and brand equity in the region. With sequential growth of 15% in volume shipments over twelve months, the outlook here remains highly favorable.
IQOS user figures continued their upward trajectory, with an estimated 28.6 million users at year-end, representing an increase of 1.2 million in the last quarter and 3.7 million across the full year. This remarkable growth, notable in Japan and Europe, reflects both new acquisitions and the transition of existing users to new product lines like ILUMA. Looking into Europe, where smoke-free products make up more than 45% of Q4 net revenues, there's a growing adoption that's expected to remain resilient despite new characterizing flavor bans. The company expects the European adjusted in-market sales to align with the overall group growth rate into 2024, minimizing any significant disruptions from regulatory changes.
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Good day, everyone, and welcome to the Philip Morris International Fourth Quarter 2024 and Full Year 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].
As a reminder, today's call is being recorded. I will now turn the call over to James Bushnell, Vice President of Investor Relations and Financial Communications. Please go ahead, sir.
Welcome, thank you for joining us. Earlier today, we issued a press release containing detailed information on our 2023 fourth quarter and full year results. The press release is available on our website at pmi.com. A glossary of terms, including the definition of smoke-free products as well as adjustments, other calculations and reconciliations to the most directly comparable U.S. GAAP measures for non-GAAP financial measures cited in this presentation and additional net revenue data are available and Exhibit 99.2 to the company's Form 8-K dated on today's date and on our Investor Relations 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.
I'm joined today by Jacek Olczak, Chief Executive Officer; and Emmanuel Babeau, Chief Financial Officer. Over to you, Jacek.
Thank you, James, and welcome, everyone. PMI delivered another strong operating performance in 2023. We achieved our current consecutive year of positive volumes and a high single-digit organic top line growth driven by smoke-free products. Smoke-free products delivered accelerated accretion to profitability in the fourth quarter as our IQOS business delivered meaningful 2023 operating leverage mitigating a significant drag from combustibles.
I'm also very pleased to report the continued outstanding growth of ZYN, which was not included in organic metrics until of November last year. Importantly, smoke-free products reached nearly 40% of total PMI net revenues in the fourth quarter and over 40% of gross profit. For the year, smoke-free gross profit increased by 19% organically, and we expect smoke-free organic growth to accelerate for both net revenues and gross profit in 2024. ZYN delivered exceptional growth in its first year looking PMI with U.S. pro forma volumes up by over 60% for the year and over 75% in the quarter four. Oral smoke-free is accretive to both our smoke-free business and the overall growth with Swedish [ March ] contributing 50 basis points organic uplift to Q4 OI margins from only 50 days of the period.
Our IQOS business continues to deliver excellent results with 15% adjusted in-market sales growth for steak unit, reflecting broad-based momentum in Europe, Japan and emerging markets. The rollout of IQOS [indiscernible] is substantially complete and now present is present in the 51 markets representing over 95% of IQOS geographies by volume excluding Russia and Ukraine. The superior experience and design of Iluma, combined with the strong premium brand rate equity of iQOS and our commercial infrastructure enabled IQOS to outgrow the [indiscernible] category despite holding the category share of over 75%.
Importantly, as we have seen in Japan, the launch of illuma is a multiyear growth driver consistent with past IQOS innovation. Our 2023 compatible performance was margin dilutive despite strong commercial results with very good pricing and higher category share. This reflects the significant cost pressures in the category, geographic mix from volume growth in lower-margin markets without smoke-free product and the impact of IQOS cannibalization. This was also compounded by the technical impact of third-party manufacturing in Indonesia and Ultra. Our constant currency headwinds impacted our revenues in 2023, the strengthening growth and margin profile of smoke-free product set us up well to deliver sustainable growth and returns, including currency in 2024 and beyond. We reached a number of key transformation milestones in the last quarter of last year. First, IQOS' net revenues surpass to Marlboro to become the #1 international [indiscernible] brand on this measure. This demonstrates the power of innovative smoke-free alternatives such adult smokers away from cigarettes and to address the societal issue of combustible tab. It is also a testament to our organization's ability to build strong and sustainable brand equity. This also applies to the the fastest-growing U.S. smoke-free brand with another outstanding performance in Q4 marked by an increase in category volume share, retail value share and overall volume. We're also proud to have reached 25 markets where smoke-free products exceed 50% of our top line for both Q4 and the full year.
We aim to reach 60 markets by 2030, driving our ambition to exceed 2/3 of group net revenue. Last, as I already mentioned, over 40% of our total gross profit was generated by smart-free products with the adjusted gross margin rate on smoke-free surpassing combustibles for both the quarter and year. We are encouraged by the increasing number of the government of the [indiscernible] tobacco [indiscernible] reduction policies encourage reduced risk [indiscernible] and consumption instead of smoking, which is ultimately more sustainable for society. Nevertheless, a considerable amount of work remains. Sustainable growth requires a sustainable business, and we continue to garner increasing the recognition for our sustainability performance across the key product and operational topics for our company. PMI was included in our Dow Jones Sustainably [indiscernible] Index for the first time. And for the [ fourth ] year in a row, the DJSI of America. In addition, PMI was awarded carbon disposal projects A rating for the fourth consecutive year.
I will now hand it over to Emmanuel to discuss our results and outlook in more detail.
Thank you, Jacek. Let's start with the headline numbers. we finished the year strongly with Q4 organic net revenue growth of plus 8.3%. This includes plus 14% growth from smoke-free products despite lower shipment growth due to comparison effect and also plus 5% growth from combustible. Pricing was a strong driver for both categories with smoke-free pricing, including the impact of retail price increases on HTUs.
While Swedish Match was only included in organic metrics as of November 12, it contributed plus 0.8 percentage points to Q4 organic top line growth and grew by an excellent plus 26% on a pro forma basis. Operating income grew organically by the very good plus 8%, including a Swedish Match contribution of plus 2.2 points.
As expected, Q4 margins were broadly stable organically and grew, excluding the technical effect mentioned by [indiscernible]. This enabled our business to deliver another quarter of double-digit currency-neutral adjusted diluted EPS growth at plus 12.2%. We exceeded our prior expectations within remarkable growth as a multiple contributor. Despite this strong currency-neutral results, Q4 adjusted diluted EPS of $1.36 was adversely affected by a greater-than-expected currency impact of $0.20. This includes a $0.09 balance sheet-related impact under higher inflationary accounting in Argentina, following the devaluation of the peso in mid-December as we previously mentioned impact in Q3, this reflects the depreciation of monetary net assets denominated in peso, which are subject to capital control. By its nature, this does not carry forward to future periods. Turning to the full year. Net revenue grew by plus 7.8% organically, representing the third straight year of high single-digit growth.
Similar to Q4, this reflects continued excellent IQOS momentum and strong combustible pricing. In 2023, Swedish Match led by [indiscernible] grew pro forma ex currency net revenues by plus 20%. Operating income grew by plus 3.7% organically, reflecting a challenging first half followed by strong growth in H2. We delivered expansion in both adjusted gross margin and operating income margin in H2, driven by the strong progress of smoke-free products. with the impact of accelerated device sales from the [indiscernible] rollout in the base and a return to [indiscernible] to Japan. The effect of growing HDD volume and ongoing cost optimization are clearly visible. As expected, OI margin organically contracted 150 basis points for the full year, primarily due to acute cost and supply chain headwinds in H1 as flat in prior quarters, full year margin includes a 40 basis point headwind from the accounting treatment of third-party manufacturing in Indonesia and Ukraine, primarily reflecting the Indonesia excise tax gross-up of around $250 million growth in both net revenue and cost of sales. While headwinds in combustibles have not fully abated, our smoke-free business is delivering excellent profit growth and our organic results will include the strong contribution from Swedish Match going forward. We successfully mitigated inflationary pressure and supported investment with efficiency. Across our total operating cost base, we delivered an incremental $100 million in gross cost efficiency in Q4 and $2.2 billion for 2021, 2023 overall, surpassing our $2 billion target. We target an additional $2 billion over the next 3 years. Still positive factors allowed us to deliver very strong currency-neutral adjusted diluted EPS growth of plus 11% ahead of our prior expectations. Adjusted diluted EPS of $6.01 includes unfavorable currency of $0.63, primarily reflecting the Japanese yen, Russian ruble and specific Argentine peso dynamic I just explained.
We include a slide in the appendix to this presentation with more detail. Focusing now on volumes. We comfortably achieved a third consecutive year of shipment growth driven by a plus 15% increase for IQOS HTUs in addition to a resilient combustible performance. Our smoke-free volumes made up over 20% of total PMI in Q4, and with continued new teams of better growth expected here, we are very well positioned to continue growing volumes over the mid and long term.
2023 HTU shipment volume of 125.3 billion units were at the lower end of our targeted range due to delayed launches in Saudi Arabia and Taiwan, combined with lower-than-expected underlying growth in Russia and Ukraine. For IQOS HTUs we believe the best indicator of underlying growth is adjusted IMS as the closest [indiscernible] consumer offtake. For the full year, adjusted in-market sales volume and shipment growth were in line at plus 15%. During the fourth quarter, HTU shipment growth of plus 6% reflects trade inventory buildup in the prior year quarter and the plus 14% adjusted IMS growth is, therefore, a more reliable measure of continued strong growth momentum, excluding Russia and Ukraine, adjusted in-market sales grew by more than plus 17% for the year.
For context, across the 2 years before the war begun in 2022. These markets made up 23% of HTU shipment volume and exceeded the company's growth rate by a notable margin. These smoke-free volume growth rates exclude the excellent development of our overall nicotine portfolio, driven by ZYN, with shipment volumes up by plus 23% in Q4 and plus 17% in 2023 on a pro forma basis.
Cigarette shipments declined by a modest 1.4% in 2023, outperforming the international category decline of 2.4%. Turning to profits. Organic operating income growth stepped up in H2 to plus 10% following the exceptional headwind of H1. We believe this is more representative of the underlying momentum of our business and in line with our 24, 26 CAGR target range of plus 8% to plus 10%. Focusing now on some key drivers of our full year operating income. Smoke-free gross profit grew organically by an excellent plus 19%, expanding gross margin by 340 basis points. This reflects part of the operating leverage of IQOS, I already mentioned, with a notable contribution from Swedish Match overall nicotine in the last 50 days of Q4 with organic operating profit growth of over 50%. With smoke-free commercial costs also increasing by less than net revenue. This clearly bodes well for 2024 as we continue to benefit from scale effects and manufacturing optimization. Despite very strong pricing, there was only marginal organic growth in convertible gross profit.
This partly reflects the negative geographic mix I already mentioned with greater volume decline in higher-margin markets like Japan as adult smokers [indiscernible] smoke-free product and better volume trends in lower-margin geographies where smoke-free products are small or not available, such as Turkey. There were also significant inflationary pressures on lease, direct materials and other manufacturing costs.
Cost increases on Leaf, where inventory cover multiple crop years and wages are likely to carry over into 2024 and should ease thereafter. Moving now to Swedish Match, which delivered outstanding performance in its first full year as part of PMI with adjusted pro forma currency-neutral top line growth of plus 26% in Q4 and plus 20% in 2023. When we announced our offer for Swedish Match in 2022, we targeted a return on investment in excess of our cost of capital within 5 years. With the growth of ZYN surpassing our expectations, we now expect to achieve this well ahead of time. Vin delivered another remarkable U.S. performance with plus 78% volume growth and plus 62% in 2023.
Internationally, we have launched or relaunched in 10 markets as planned as we continue to focus on building a truly global brand. U.S. Cigars posted a robust 2023 results, growing net revenues and profit. This was driven by strong pricing following an increase in April partially offset by volume decline, which reflects light competitor pricing and comparison effects. These excellent U.S. progress continued in Q4 with plus 15% sequential growth in 12 months volume shipments. Impressively, category volume share grew for the third consecutive quarter to 72.8%, and an increase of plus 5.4 points year-on-year and plus 2 points sequentially. Retail value share also grew during the quarter to 77.4%, highlighting ZYN's premium positioning and superior brand equity.
This accelerated growth again reflects a broad step-up in nationwide store velocity and gradual distribution expansion as the category gained strong traction with [indiscernible] nicotine users for its convenience and pleasurable experience. Now focusing on IQOS, starting with user growth. We estimate there were 28.6 million IQOS users as of December 31, representing growth of 1.2 million users in the quarter and plus 3.7 million for the full year, it's a nice acceleration compared to 2022.
This includes notable progress in Japan and Europe in addition to a broad range of other geographies. ILUMA is now available in essentially all major markets outside Russia and Ukraine with over 70 million estimated adult users as of December 31, 2023. This reflects the switching of existing IQOS user and the acquisition of adult smokers. We expect Illuma to drive continued strong IQOS user growth in 2024 and beyond. Considering the seasonal situation and volatility in portable user estimation, we plan to report this metric on a semiannual basis going forward. With the addition of into portfolio and the smaller but growing give e-vapor business. We also intend to provide a more holistic view of our total smoke-free user base to investors. Moving now to IQOS in the Europe region, where smoke products made up more than 45% of Q4 net revenues. Our Q4 adjusted HTU share increased by plus 1.2 points to 9.6% of total cigarette and HTU industry volume. A key driver is the growing uptake of illuma, which is available to around 90% of IQOS user in the region after 8 further launches during the quarter.
In the EU, 11 markets making up nearly 30% of regional IQOS volumes adopted the delegated directive to implement the characterizing flavor ban on into tobacco product and implemented clean shelf policy in October. While still early days, we estimate only a small impact on offtake as consumers adjust as well as on trade inventory levels. Indeed, adjusted IMS volume continued to exhibit very good sequential growth and reached a record high 12.4 billion unit on the 4-quarter moving average. This reflects double-digit year-on-year projection of plus 13% in Q4 despite the lack of growth in Ukraine. We expect the remaining EU market to adopt the characterizing flavor ban in 2024 and estimate a full year consumer adjustment impact of around 2 billion units on both shipment and IMS, representing less than 5% of regional volume and less than 2% of total PMI.
This is consistent with other past flavor restrictions such as the EU ban applied to combustible in 2020. Based on the initial data from market that have [indiscernible] the ban, our fundamental view remains the same. We do not expect a meaningful change in the structural trajectory of the category and indeed expect Europe adjusted IMS progression to be broadly in line with a group growth rate in 2024. Europe is also an important geography for innovation. [indiscernible] 0 tobacco HTUs were launched in the Czech Republic in mid-October through limited channels with an encouraging initial response. We plan a broader check rollout later this month and further market launches this year. In Japan, the [indiscernible] category now represent close to 40% of the total industry with IQOS driving its growth and reaching over 8.5 million adult user. In Q4, the adjusted total tobacco share for our HTU brands increased by 3.1 points to 27.6%, with offtake shares surpassing 34% in Tokyo.
Adjusted IMS volume increased by plus 14.5% year-over-year for 2023 and plus 13.4% in Q4 alone reaching a record high of almost 10 billion units on a 4-quarter moving average. Such increasing growth in a market with already high category penetration is a clear testament to the sustainable potential of IQOS around the world. HTU shipment volume returned to a more normalized state in the fourth quarter as compared to a tough prior year inventory comparison following the substantial completion of the transition back to see in Q3. In addition to strong IQOS share gain in developed countries, we continue to see very promising growth in low and middle income market. This slide highlights a selection of Q4 key city of tech shares across markets in Eastern Europe, Africa, Asia and Latin America. Egypt continues to impress with [indiscernible] offtake share up plus 3 points to 9.4%, also noting encouraging results elsewhere in the region, such as Morocco and Lebanon. Indonesia also saw notable progress in its capital city, especially given limited commercialization. We continue to see dynamic offtake volume growth across this important future market. with the city shares towards the right of this chart, an indication of the exciting potential. While we have already covered the margin dynamic on combustible our 2023 commercial performance was very robust with organic top line growth of plus 5.5%.
This reflects both strong pricing with notable contribution from Germany and Indonesia and positive share performance within a resilient international category. Our cigarette category share grew by plus [ 0.1 ] in Q4 and plus 0.2 in 2023 with notable contribution from Egypt, Poland and Turkey, although flatted by competitor supplied constrained in Egypt, which may normalize in '24. We again achieved our ongoing objective of stable category share, excluding this effect, despite the impact of IQOS cannibalization. This remains key as our leadership in combustibles helps to maximize switching to smoke-free products. This convertible share performance, combined with structural growth of IQOS led to an increase of plus 0.6 points of international cigarette and HTU share for the full year. As mentioned previously, our superior share of smoke-free products give us a formidable platform for sustainable share gains with superior unit economics.
Before we turn to the 2024 outlook, let me briefly reflect on our strong delivery over the past 3 years in spite of a number of substantial headwind. The performance was clearly positive compared to our currency-neutral 2021, 2023 target of more than 5% organic top line and more than 9% bottom line growth supported by overall growing volumes. For the next 3 years, we target a similar strong volume delivery, a plus 6% to plus 8% organic net revenue CAGR and a step-up in organic operating income growth to plus 8% to plus 10%. We target an adjusted EPS CAGR of plus 9% to plus 11% ex currency growth at constant 2023 corporate tax rate, including an increase in net financing costs, which skews towards the first year of the period in 2024.
Okay. This brings me to the outlook for 2024, where we expect a strong acceleration in smoke-free performance across IQOS volume, smoke-free net revenue and gross profit. We forecast the highest ever absolute increase in HTU adjusted IMS volumes to deliver plus 14% to plus 16% growth in percentage terms despite the inclusion of an estimated impact of around 2 billion units from consumer adjustment to the EU characterizing [indiscernible] band I mentioned earlier and essentially no offtake growth in Russia. For shipment volume, we target more than 140 billion units, subject to the usual inherent volatility of shipment timing, new market launches and potential supply chain disruption such as the ongoing situation in the Red Sea.
While shipment growth rates naturally follow adjusted IMS over time, there is a possibility of some lower inventory level compared to 2023 given the substantial completion of Illuma launches and opportunities for working capital optimization. We expect continued excellent U.S. volume growth to around 520 million tonnes. We have also accelerated our capacity expansion plan to support this further significant step up in volume and to manage inventory levels, which are naturally affected by the recent level of growth. Such a strong outlook for IQOS and [indiscernible] means we expect to deliver an acceleration in organic smoke-free top line growth compared to 2023, reaching close to $15 billion in net revenue at prevailing exchange rate. This supports a total PMI forecast of plus 6.5% to plus 8% organic net revenue progression, including a fourth consecutive year of total volume growth and mid-single-digit combustible pricing.
We also forecast an acceleration in smoke gross profit growth from the organic plus 19% delivered in 2023 as iQOS profitability continue. We expect smoke-free to again drive the lion's share of our forecast organic OI growth of plus 8% to plus 9.5% in notably given the enduring cost pressure and negative geographic mix in combustible I just mentioned. This naturally implies organic margin expansion, even factoring in the ongoing technical dilution impact of third-party manufacturing in Indonesia.
We expect a meaningful organic improvement in overall gross margin, excluding technical impact and a very limited currency impact on adjusted OI margin. This forecast includes notable capability investment in the U.S. But as mentioned at Investor Day, we still expect to deliver strong double-digit operating income growth in this market. As flagged at last year in Investor Day, we anticipate an increased net financing expense this year as debt is renewed at higher rates. We forecast a range of $1.3 billion to $1.4 billion as compared to $1.1 billion in 2023. We also assume a higher effective corporate tax rate due to Russia suspension of certain double tax treaties and earnings mix. These tax and interest factors combined impact our currency-neutral adjustability [indiscernible] growth projection by around 2 percentage points. Accordingly, we forecast currency-neutral adjusted diluted EPS growth of plus [indiscernible] plus 9%. This translates into an adjusted diluted EPS range of $6.32 to $6.44, including an unfavorable currency impact of $0.11 at prevailing rates. This notably includes the net several impact of $0.13 related to the revaluation of monetary balances in hyperinflationary economy in 2023 skewed to the second half comparison.
Moving to the shape of expected 2024 performance on a quarterly basis. We anticipate good double-digit growth in adjusted IMS FTD growth every quarter supporting the full year forecast of plus 14% to plus 16%. We forecast a strong Q1 overall with HTU shipment volume of 31 million to 32 billion and continued strong volume growth from ZYN. We expect organic top line and operating income growth to be broadly consistent with the full year outlook, which implies organic margin expansion as with the full year. We project from Q1 currency-neutral adjusted diluted EPS growth of plus 7% to plus 10%. This translates to a range of $1.37 to $1.42, adding a negative currency variance of $0.10 at prevailing rates, with currency comparisons improving in the second half as we lap the Argentina impact of 2023. Our business remains highly cash-generative. However, the $9.2 billion in 2023 operating cash flow was lower than expected. This was due to currency effect on net earnings including the Argentine peso devaluation, other year-end currency impact and higher-than-expected working capital needs.
In 2024, we target between $10 billion and $11 billion in operating cash flow at prevailing exchange rate and subject to working capital requirements. We continue to prioritize investing in innovation and the growth of our smoke-free portfolio. In 2024, we expect capital expenditure of around $1.2 billion, including the ZYN capacity expansion I just mentioned. Deleveraging remains a key priority for us. And as expected, our 2023 net debt to adjusted EBITDA ratio was around 3x given the 2023 purchase of the remaining tradition minority and the final U.S. IQOS payment to Altria.
We target much better progress of 0.3 to 0.5x deleverage in 2024, driven by continued EBITDA growth and strong cash flow generation. We continue to target a ratio of around 2x by the end with buyback to be considered once confirmed we are on track. Finally, our commitment to our progressive dividend policy is unwavering and in line with our long-term commitment to return cash to shareholders.
I will now turn it back to Jacek for concluding remarks.
Thank you, Emmanuel. Let me now take a moment to cover our key strategic priorities for 2024. First is supporting the sustained growth momentum of iQOS for continuous innovation. This includes leveraging the rollout to film to maximize user growth while innovating further of devices and consumables. Second is to continue the strong U.S. growth of ZYN, supported by targeted commercial investment, long-term capacity expansion at organizational infrastructure, which will also support IQOS. Outside the U.S., we intend to continue developing our integrated multi-category offering to add a does with further launches of Zen and were rather than our e-vapor portfolio. Of course, in 2024 will be a landmark year for IQOS in the U.S. While the ultimate launch of IQOS ILUMA is the main priority, we continue to prepare for the first city test of the IQOS 3 blade product starting in Q2 this year. The small-scale pilot launches will allow us to experiment with different aspects of commercialization and support our drive for a scaled commercial success once ILUMA is authorized. While we have no update on the expected PMTA time line, the patent settlement agreement announced last week allows for commercialization of both blade and Maxim products while mitigating the risks of underwater disruptions and enables us to leverage the scale, optimize cost and flexibility of our global supply chain. . In combustibles, we continue to target a stable category share over time despite the impact of IQOS cannibalization while taking judicious pricing actions to drive a positive profit contribution. Our capital allocation priorities are crystal clear. We will continue to invest in the growth of smoke-free products and our commitment to dividend remains step. Following the acquisition of Swedish Match, deleveraging remains our key balance sheet objective. We aim to continue our excellent progress on sustainability initiatives including those related to product impact, such as [indiscernible] prevention and post-consumer waste. Finally, and importantly, we remain committed to transforming the tobacco 100 action landscape by providing superior alternative to adult smokers who would otherwise continue smoking and advocating for science-based regulations. We will be expanding [indiscernible] of these topics at Cagney Conference intricate.
Let me now conclude today's presentation. Overall, our business delivered a strong 2024 performance in the phase of notable cost headwinds driven by structural smoke-free moment. The continued excellent performance of IQOS and remarkable growth of ZYN strengthened their position as leading brands with excellent equity, combined with our unrivaled commercial and innovative capabilities, we have a powerful platform to expedite our smoke-free future as we broaden our portfolio and reach to adult smokers.
We expect 2024 to the year of accelerated growth for Smart food product and remain confident in our 2024-2026 growth targets. We have exciting opportunities in the U.S. and internationally, which we are fully dedicated to capture as we progress towards our ambition of being sustainably smoke-free by 2030. Finally and importantly, our strong growth outlook and a highly cash-generative business underpins our ability to leverage while regarding cash to shareholders. Thank you. and Emanuele I'm now happy to answer your questions.
[Operator Instructions] Our first question will come from Bonnie Herzog with Goldman Sachs.
Hi, everyone. I actually to ask a high-level question on the year. You originally added FX neutral EPS growth in '23 of 7% to 9%, yet you really did finish out the year a lot stronger reporting 11% currency-neutral EPS growth. So as you look back what were some of the key areas of outperformance versus your initial expectations? And then as you think about this year, you're initially guiding to 9% FX neutral EPS growth again. So just trying to understand how conservative this may be, especially considering your 9% to 11% midterm growth target?
So Bonnie, with regards to 2023, I think the momentum of which we have and the category is in Japan, is really well syncing out. And despite the fact that IQOS occupies a very sizable part of the segment. . I mean we capture well above our segments. I think we captured about 80% of the entire segment growth in Japan. So this is very strong. Japan is on the forefront of a smoke-free transformation. We're approaching the year [indiscernible] of iQOS in Japan. And if I just look over the last few weeks, how category is continuously expansions in Japan. I think in a [indiscernible], the smoke-free products now about exceeded the size of the cigarette category. So [indiscernible] continues after 10 years participating in this phenomenal growth, which is really a single out. Clearly, ZYN and as we indicated very much, we've been very keen and very pleased that we could conclude the acquisition of Swedish Match that adds the important element of our portfolio of alternative smoking pouches and obviously creates a very good opening for us in entering the U.S. market and as clearly is growing above their expectations. What is very important is we hear from time to time quite rightly conversations about some unintended consequences about the use of the product. I am so pleased with both IQOS and as well actually delivering of as they were designed for, i.e. going after adult smokers in the U.S. about 21 years. We're all familiar with the CDC data, less than a 80% [indiscernible] for IQOS and international. So we have a good -- my view is we have a very good, sustainable growing 2 fabulous propositions in a smoke-free product, and we're also trying to be a very focused from a financial perspective with regards to the rate.
So right now [indiscernible] this [indiscernible] 2024, I think Japan is on the group momentum in the U.S. is continue this momentum. Europe is going very strongly very well. Yes, we have this distortion maybe potential headwind [indiscernible] very clearly indicated the $2 billion potential impact from the flavor ban in the Europe. But other than that, these key geographies and this key geography is also very important from the margin perspective expansion. They really are on the positive side. And I don't want to sound negative on the rest of the world. However, one thing which I note that, on occasions, there might be some conversations around that growth trajectory of IPs and so on. And you remember during Investors Day have been very clear. We're running IQOS in 10 consecutive years of fabulous growth despite the fact that we essentially lost any growth, access to earn growth in Russia. And historically, I mean, Russia alone was delivering and depends how you now which period you pick up, but easily above the 4 [indiscernible], maybe even [indiscernible] growth of the category. So I think we need to look at this trajectory from this perspective, which makes me even more confident about our 3-year outlook.
Okay. That was helpful. And then I did want to ask a little bit more on margins. Just hoping for a little bit more color on your margins in Q4, especially in Americas, where they were actually negative. I'm assuming, I think you called this out. A key driver of this is your investments ahead of the IQOS relaunch in the U.S. in May. So in the context of this, how should we think about operating income growth in Americas this year? Will it continue to be negative. And then for the full year of 24 years just total company, your guidance is for FX-neutral revenue growth and operating income growth does imply operating margin expansion. So could you maybe touch on your expectations for gross margin and OpEx in the context of that?
Yes. [indiscernible] more details, I think in the Americas segment, where it's more the impact of the devaluation in Argentina which drove the margins down rather than the U.S. market, specifically about the U.S. market, yes, there is the increased investment also to continue supporting the growth and expansion, but also in preparing Swedish module organizations of Credit [indiscernible] International in the U.S. organization for being able to handle [indiscernible] soon and obviously have the organizations, which is up to the opportunities and the challenges of the U.S. market. So there are some investments which are already deploying for the P&L even ahead of the IQOS per [indiscernible] start of ever commercialization. Emmanuel, do you want to...
Just to complement -- to answer your question, Ben complement what Jeff was saying on what is behind the higher-than-expected performance for 3 clearly, ask, described a very strong dynamic on the volume on the commercial dimension, if you want. But we've been very pleased as well with the development of our margin on our smoke-free product. And we are today seeing the margin both on IQOS and on being above the average margin on CIC. We are making progress on the profitability of the IQOS product and we have some price increase in Q4 overall. So that was the planned dynamic, but it is happening, maybe even a bit better than what we're expecting, and we expect that to continue. And in that perspective, I mean, clearly, the U.S. is a fantastic market. We described the fact that the margin of the in the U.S. is best-in-class among our portfolio of product. And therefore, make no mistake, even if indeed, we're going to continue to invest in the U.S. The U.S. is going to be super nicely accretive in all parameters of our P&L at the level of the, of course, revenue growth but also at the level of the margin evolution and the level of the operating income, and we reflect the fact that we talk about double-digit growth and very strong WW growth. U.S. is a very powerful consecutive to our financial performance.
Okay. Emmanuel, if I may just clarify something then for this year, you are expecting gross margin and possibly op margin expansion based on your guidance, it implies op margin?
Yes. We do absolutely been. Yes
We'll go next to Gaurav Jain with Barclays.
Two questions from me. One is just to clarify the Argentinian peso impact. So you have a $0.19 impact this year, which is linked to balance sheet revaluation. And on the slide, you are using the Argentinian peso rate, which is equal to the spot rate, there shouldn't be any further balance sheet revaluation down, which means that there is an automatic $0.19 benefit to EPS. Isn't that the way the math [indiscernible]
Look, of course, we cannot speculate on any further duration of the peso. The reality is that the amount in dollar term has been significantly reduced by the last devaluation. So further devaluation would impact to a much lower amount. Now I don't know whether more devaluation could come. Frankly, we're not able to anticipate this kind of thing. What you have to take into account is that the basis has been, in fact, had basically with the deviation in December. So any further devaluation would apply to a lower base in Argentinian peso.
Sure. Maybe I can ask it separately. And my second question is around in. We are hearing a lot of statements. We had an by Chuck Schumer a lot of investors are concerned, they think that regulation is coming on then flavors will get bad. So how do you plan to get ahead of this entire potential controversy that could emerge around ZYN.
Yes. So we observed over the last few weeks, I have a lot of conversations around Brazil and social media and generally Internet and media. I think -- look, [indiscernible] in the U.S. market for 10 years, okay? And if you are [indiscernible] given on the CDC, it's latest data on the [indiscernible] age [indiscernible], et cetera, it stays well low, [indiscernible] I think we see arsonist no film any product, Nicotine and also other products where there's some major restrictions applied. I think we know whatever the Swedish Match marketing practices, and we were taking this very seriously during the acquisition of the [indiscernible]. We have said that the alignment with [indiscernible] was not only that they were pursuing the smoke-free projector, but also that they have a very responsible and a disciplined approach to the marketing as we are on vehicles with [indiscernible] international. We have reached out to the few people who have been most vocal to in these conversations in an a consumer, but also to FDA. And I think the facts are the facts are different than sometimes it is being trying to be the positions in the medium. So the product is helping adult smokers very straight with the age verification. Obviously, when it comes to the conversations among the adults in the [indiscernible] media that's going a little going anticipating in the territories we wouldn't have control. When is not using and paid ambassadors whatever this is [indiscernible]. So we think what we're doing is tether product from the potential of the reduction of the harm where the product is based on science position and the risk reduction continuum. It's frankly taking it is the best nicotine alternative to another nicotine products very much obviously versus the cigarette. We have a pending PMTA with EBITDA, [indiscernible] Science is very strong and very conclusive on the site. So I feel very confident from the very beginning of our transformation, it's always Swedish Match we put the market team and very much the protection of the other very, very high on our agenda. So I think it gives me the confidence that, as I said earlier, the body's question, we have a progress fundamental growth on the products, which are delivered in a very sustainable numbers to adult smoker. .
We'll go now to Pamela Kaufman with Morgan Stanley .
I have a question about ZYN as well. It's seen phenomenal growth in the U.S. Can you talk about what's driving the acceleration in growth in ZYN in the U.S. And are there any particular regions where you're seeing stronger growth? And just on the ZYN guidance, it implies about 35% growth in U.S. shipments, but that seems conservative given the strength that we've seen. So is there anything that would temper ZYN's growth outlook relative to what we're observing.
Yes. So then you remember from our Investors Day, the profile of the ZYN when it comes toward the smoke or where the adults are coming from, there is any sourcing very nicely from a combustible cigarette, obviously, serves from the overall categories, including the tobacco containing pouches, [indiscernible] or similar products, but also resourcing from the vape category. So it is to recognize the growing number of adults, the convenience of usage of Brazil. It is another way of looking at ZYN, is a natural innovation or extension of the 3D product, the tobacco protein pouches, obviously, [indiscernible] as we know them, some people were not maybe comfortable of having the tobacco in the pouch. There are some optical hygienic type of maybe constraints, et cetera, and there is something which is looks looks cleaner is why it doesn't contain tablet, which might have been for or might be for some consumer create some resistance. So this is what I can say. I think the product has a good trajectory. The market is a large market in the U.S. with the very developed at category, obviously, we're still a very sizable combustible figures category and also many other oral tobacco [indiscernible].
So it's a nice [indiscernible] for ZYN, which is appealing to these audiences. With regards to comments we avoid number of accounts forecasted [indiscernible] our guidance for next year. So we are very well something trends in the U.S. can't surprise us to the positive. Yes. I can -- guidance is built on the number of the assumptions, right? I mean it's a global business, multi-category and there are some headwinds, which were ready today. I'm not sure whether there's a lot of materialize, but I think it's a matter of prudence is that this part of the year at the beginning of the year to single the amount and be prudent, but there are also some upside and the tailwinds, which [indiscernible] we are aware of. The year-end voice will come to the Q1. I mean as a rear we build the confidence as you go through the year.
Yes. And [indiscernible] to clarify the guidance here, we are coming with a growth year-on-year. That would be similar than the one we've been experiencing in terms of total volume growth in percentage a year versus '23 and '22. So these are sale of volume growth. It's related to a reduction in the growth rate. we'll see whether we have seen going even higher than what we are forecasting for the time being.
Okay. That makes sense. And a question on the patent settlement with BAT. Can you elaborate on the implications of that I know you've been investing in manufacturing capabilities in the U.S. for IQOS. How does the settlement influence your ability to import into the U.S.? And does it change your manufacturing strategy?
Well, it actually allows us now to [indiscernible], iQOS in the U.S. to the supply chain which is on the international supply chain from day 1, which is operating with all the benefits of economies of scale, et cetera. So obviously, as the mitigating type of a strategy we have been implementing in parallel alternative manufacturing in the U.S., but that obviously is the [indiscernible] for volumes. We would obviously result in the increased or elevated costs both on the devices, electric and voltage while until U.S. on a stand-alone basis would close at the same level of the benefits of the cost is to like as we had on international. So for us, it's customer path for IQOS.
We don't like any Lomas we're bringing a lot of -- or removing that, I should say, uncertainty from today and going forward. And because it is less is just another market which we added to the geographical family of IQOS presence from a day 1 or [indiscernible] I said, to the pipeline of the product and its economic cost benefits as an international market.
So for us, actually, is clarity and acceleration which we gained for this agreement. And obviously, as we all know, the patent litigation territory has a high degree of uncertainty. And we're running a very sizable business we plan to have even more sizable business. You're addition now of U.S. and that clarity and the visibility going forward is very important. I believe is also important to investors.
We'll go next to [indiscernible] with UBS.
I have a couple as well, please. Firstly, you're guiding for another impressive year of mid-teens heated tobacco in-market sales growth. You've highlighted Europe will be within that range. Historically, Europe has done slightly better. what markets make up the sort of difference to help you to still get to the mid-teens growth, if you could allude to the larger markets. And within that, are you assuming any contribution from Taiwan, Saudi Arabia, you mentioned? And what should we expect for the U.S. as well, please?
So maybe I start with the U.S. I mean the U.S., we will do the test market on IQOS 3, what we call the IQOS 3.0 blade product, which is literally for us the high cost and we're looking forward to get more visibility from EBITDA with regards to the PMTA MRTPA for vehicles in [indiscernible] which would allow us to accelerate the broader, more national type of commercialization. So what we have assumed in 2024 in terms of the volume contribution of IQOS from U.S. it is very [indiscernible] treating [indiscernible] testing, [indiscernible] commercial, the consumer seen type of a solution rather than [indiscernible] current version of the product at the full scope. . We have assumed -- we made some assumptions with regards of opening the markets in which IQOS today is not allowed. The -- those the ante lease is obviously Taiwan that's each other assumption and we might be right or rock, but these are the assumptions that we made is obviously hinges on the speed of some regulatory decisions and the lows being fast, et cetera. deliver regards to you, look, I mean although I believe that the history have shown with the flavor type of regulations in the different categories in the different places that over a period of time, they don't have much of an impact [indiscernible]. But we're going in a period that some markets or markets will be implementing these regulations. So thinking the I think they could be cautious that there might be some distortions.
I mean we put in a guideline on it very transparent and cottonseed we which will take in on the volume outlook for IQOS, but we'll have to see where this materializes not materialize as a matter of also we should we should talk about this. Other than that, the underlying IQOS growth, if I look at the value of a share evolution essentially on the European market is pretty strong despite the fact that [indiscernible] in Central Europe, there is maybe more of the pricing competition from other gotten participants. But we also have a very strong price competition. It's rally strong price competition, I should say both on the devices and the consumer to consumer base in Japan. And over the period of time, IQOS navigate for this highly sometimes aggressive competitive pricing environment very well. So that's [indiscernible] we are. Germany grows very nicely. Italy continues with a very strong growth momentum. We have the major driver in Spain. We make the -- we start making a significant progress. So that's it from me here.
And then just one other question, please. So you're expecting a smoke-free acceleration in 2024, but that's not translating into group revenue growth acceleration in 2024. Are you expecting a softer performance in combustibles in '24. Is that the discrepancy?
Yes. I mean this is like that this moment in time at the beginning of the year the blended outlook for the group revenues combustible or obviously, is not were the few other smaller things. But we have managed last year to deliver a very strong pricing variance. I think again, it's fair to assume that the driver of a pricing variance may not be repeatable this year. But there is obviously a pricing potential, which were baked in the -- included in the guidance. Look, for some of these things, we need to we need a little bit more visibility to start increasing our confidence. The delay that when I compare what [indiscernible] Philip Morris is delivered now. number of the years when we leave the revenue top line, about 70%. And remember very well at times when we started transformation that we -- now I think a quality what counts for us and this is what we pay a lot of attention that we not only want to lead in a sustainable matter, the revenue growth, but obviously important is the quality of the revenue growth. So having a 3-year total group volumes to start with above was no decline, not even flat, but growing, when you start overlaying this by pricing and managing to focusing to avoid the risk of some down trading, et cetera. I think that the 7% is there over about 7% revenue growth is the pretty from a qualitative perspective, not just from the nominal growth perspective, I would think that is pivot.
Just to add to what [indiscernible] just been saying, I mean indeed, is taking into account that was exceptional when it comes to price increase is close to 9% on the convertible portfolio. And we don't intend to repeat that. We are guiding to a mid-single-digit price increase for 2024. So of course, that will have an impact and make a difference on the growth of our revenue on the combustible business.
We'll go next to Callum Elliott with Bernstein.
I just wanted to start with disposable vaping products. We've obviously seen these products have a huge success in the U.S. in 2023 and the U.K. also driving us a steeper volume decline for commutable cigarettes in those markets. obviously, your combustible cigarette business in those 2 markets is not huge, if nonexistent, obviously, in the U.S. So not a huge impact on your business so far. But my question is why do you think we haven't seen equivalent success for these products in the markets that are big markets for your business and the EU in particular? And do you think this could be a threat to your business in 2024?
You mean the threat to our business coming from the [indiscernible] product. Look, there a number of factors, right? So one is that I think that the category of the product is being disposable, it's not disposable. It's very much focused in terms of the offering and innovation fantastic into the flavors, right? Then we very often forget that the core of the smokers market-by-market with literally your exceptions are very much but I would characterize the traditional Tabor type of experience flavor, et cetera. So this creates sort of a more dual consumption or occasional consumption. But I think for some smelters and we know it from our experience of IQOS is actually triggers curiosity to try, but at the same time, it triggers the the bottleneck in terms of a full-time type of a switching adoption. That's one of the factors, okay? And then obviously, other factors at play.
I guess I understand that, yes. But why hasn't that -- it seems like in the U.S. and the U.K., that hasn't been an impediment to these product success over the past 12, 18 months?
Results the focus, right? Because U.K. was on the [indiscernible] for this was U.S., if I remember historically of the forefront of this category partially, I guess, also attracted by the underlying margins in the CC category. So obviously, people are going with alternatives to the places which creates some of the underlying margin opportunity with the relative freedoms also to talk about these products.
As you know, Europe very much, but also in international, some countries, these products are not here, let me put it that way we're welcome. So let's leave aside the [indiscernible] principles, but some other opinions and appeal at play. We look, we know that we enter a category, but we're trying to be very visitors, should say. It's very easy to enter into this category result too much of the path to sustainable profitability, and we don't want to focus the company from some other opportunities which pursuing which, in our view, are more sustainable and also the good start of the margins and the underlying profitability. But when we enter with this product, Italy check a few other markets, I mean our products despite the fact that we're relatively late from a copper history perspective. And then we have gained double-digit shows in this market in the speed or start less than 12 months or so. So it also tells you there is a lot of lack of loyal in there a lot of yes, I know that we see the volumes there there's a lot of trial I should not vacate and the pouching by performance in the U.S. And then by definition, the consumer is more loyal or focused discipline in how do obligate way.
Okay. And I have a follow-up that is related but maybe a slightly more philosophical question. in a number of markets and especially the U.S. related to some of these disposable rating product we've been seeing this formation of -- I would describe it as like a dual-tiered market that's been forming with big legacy players such as yourselves who are forced to play by the rules and hold themselves to a certain set of standards, marketing only to existing nicotine users and all of us will have seen your video on ZYN last week, I would imagine. But at the same time, we also have a secondary set of smaller new businesses who seem to be doing basically whatever they want and often illegally but having great success within the marketplace and attracting lots of consumers. And so I guess my question is, do you think that this dual tier structure that seems to be forming in a number of markets structurally impair the attractiveness of your business and your brands when it seems like you're just being forced to play on a playing field which [indiscernible] level?
Well, look, obviously, companies like ours is not even thinking about doing something which would be again crossing the line of regulations or even I would say social expectations. So obviously, I mean, our ability to come to you, these are asking grossly different some other operators or participants in the market, especially people who don't have a view of 10 years or 15 years outlook, but it's essentially hit and around almost type of operation. And I think we know what has happened or what is happening in the U.S., as I understand some discipline in the market is now underway. But frankly speaking, it's a long overview because there is a lot of on my language, but less created in the market by the fact that regulators, live enforcements and other design for this resonated for these agencies will be slow. And I think it's frankly speaking, the Replica, which we have, for many years, still in some places, kind of on a cigarette market, and it forms of illicit type portation in the market. It's not only marketing practices, but also product product standards all of this sale creates completely around dispositions in the market that the expense of the legitimate to category manufacturers, also diverted the compensation from how further we can progress and have reductions and divert them into the things which relatively easily should be fixed. .
Our final question will come from Matt Smith with Stifel.
Wanted to ask a follow-up question about investment levels embedded in the 2024 outlook. If we consider the expectation for gross and operating profit margin expansion on an organic basis, can you talk about the areas where you're seeing a step up meaningfully in incremental investment. Last year, you called out $150 million of explicit investments, including $75 million or so in the U.S. it would seem like the growth in CIN would allow you to step that investment level up while still being able to achieve your double-digit profit expectations in the market.
Yes. So a lot of BSI, adjusted if above our revenue growth. So obviously, we're assuming some improvement in the margins. But on the other hand, I think we will have enough of the resources to support that revenue growth. So it is -- if we were to completely stop investing, obviously, the expansions on growth would be much more significant margin expansion will be much more significant, but we are -- it is not what we see in our strategy. So I think once we operate at scale and we do in has the so the scale in the U.S. there is very substantial over there, at least by the by the market standard. And the revenue, which we generate from a small crude but also combustibles on international with that sort of a revenue growth rate. I think we have a room to provide for the investments to support today's and tomorrow's growth. Why also allowing for the BA margin expansion. We also have provided here some inflationary pressure. And I think, especially on the combustor, I we assume that the '24 is sort of the last year of this extra original level of inflation of a pressure. And as of '25 in other words, we should start seeing easy on the COGS pressures. This is about delivering some other materials. And I think every incremental ICOS and every incremental in is obviously requires proportionally less of the investment with the [indiscernible] in the [indiscernible].So I mean the scale offer is going forward, this opportunity for supporting the margin.
Sorry, before closing our call, I'd like to remind you that we will be presenting at the CAGNY conference on February 21, and we hope you'll be able to join either in person virtually. Thank you again for joining us today. If you have any follow-up questions, please contact the Investor Relations team, and hope you have a great day. .
Thank you all. See you soon.
That concludes today's call. Thank you for your participation. You may disconnect at this time. .