Philip Morris International, Inc.'s Biggest Failure in 2016 So Far

Image source: Philip Morris International.

Global tobacco company Philip Morris International (PM +0.76%) has built up a strong reputation as a reliable stock that has produced both share-price gains and ample dividend income. Yet even though it has less than a decade of history as an independent entity, Philip Morris has already built up high expectations among its investors. Coming into 2016, Philip Morris had eight years of consecutive dividend increases, and the tobacco giant recently made it nine in a row with a boost to its quarterly payout last week. However, the failure of Philip Morris to produce more than a token bump to its dividend or to provide its longer-term vision for returning more capital to shareholders could put a drag on its stock for the rest of the year and beyond. Let's take a closer look at how Philip Morris needs to respond to this lingering issue.

Philip Morris' disappointing dividend increase

Last week, Philip Morris International's board of directors agreed to give shareholders their annual dividend increase. The company decided to boost its quarterly payout by $0.02, with shareholders to receive $1.04 per share every three months.

The move was the second straight year in which Philip Morris had made only a 2% increase to its dividend. That's a far cry from the double-digit percentage increases that had marked most of Philip Morris' history of quarterly payouts.

Returning capital to Philip Morris shareholders

Yet the problem goes well beyond dividends. Traditionally, Philip Morris also made sizable repurchases of shares over the course of its history. Yet in 2014, the company's buybacks dried up, with Philip Morris choosing instead to suspend stock repurchases. That also shut off the tap on what had been a huge return of shareholder capital, which in some years had been larger even than Philip Morris' dividend payments.

Data source: S&P Global Market Intelligence.

Back in 2015, shareholders asked Philip Morris on several occasions to explain the company's actions with respect to halting stock repurchases. At one meeting, Chairman and former CEO Louis Camilleri responded that the magnitude of the foreign-currency hit to Philip Morris International's bottom line is what prompted the decision to be prudent in managing its balance sheet. At a different question and answer session, CFO Jacek Olczak held out hope about the restoration of buybacks, noting that "if currencies stay at the current level and it flows through the rest of 2015 and goes into 2016, clearly, we don't have a drag from the currency into 2016. So the entire underlying growth of the business goes to the bottom line, goes to the cash flow."

Moving slowly

The dividend announcement that Philip Morris made gave no indication about future dividend policy or the restoration of a buyback. However, investors have already gotten fair warning that buybacks will be slow in returning.

At its most recent conferment call, Philip Morris showed its conservative mindset toward return of capital. In response to a question on the buyback, Olczak said that "if we were to raise the buyback, we would like to see a positive outlook for the next few years, [to have a] longer-lasting program than just one quarter or one year. Remember, our focus always more strategically is on the dividend and creating the room for dividend growth."

The problem with that approach, though, is that it requires dividend policy to tell the entire story. When Philip Morris chose a 2% dividend increase with no further explanation, it signaled the company's lack of faith in the recent moderation of currency-related pressures on its financials. Admittedly, the global macroeconomic situation is uncertain enough that making calls on moves in the U.S. dollar is almost impossible. Yet companies are supposed to guide shareholders through tough times and offer outlooks on when to expect a longer-term recovery in their financial prospects.

Philip Morris International's failure to give investors anything more than a token dividend boost is its biggest so far this year. Depending on what happens with the company's finances for the rest of the year, Philip Morris might have a chance to remedy that decision, but its past practice suggests that shareholders will have to make do with what they already have for the near future.