Philip Morris International (NYSE:PM) may have cut its full-year earnings guidance simply because of unfavorable currency exchange rate fluctuations in Argentina and Turkey. While that wasn't completely unexpected, the continued declining fortune of its iQOS heat-not-burn electronic cigarette in Japan, its largest market for the device, is the real worrisome development.

Heated-tobacco unit shipment volumes are expected to decline by 4 billion units in Japan as distributors clear out inventory; most of the decrease will occur in the third quarter. Although Philip Morris expects gains of one billion units in its other markets, this still spells concern for the tobacco giant because two-thirds of the 8.6 million people who use Philip Morris' iQOS device live in Japan.

iQOS store in Japan

Image source: Philip Morris International.

A market like no other

Philip Morris wants to soothe investors. First, it forecasts heated-tobacco shipments will more than double to 100 billion units by 2021, or more than the combined traditional-cigarette shipment volume to Latin America and Canada of 84.2 billion units last year. It also notes that adoption of the iQOS in Japan is actually two years ahead of schedule. It always anticipated hitting a wall of resistance among older cigarette smokers, but it didn't expect to reach it so soon.

Still, because the Japanese market is different from elsewhere the iQOS device is sold, investors shouldn't get their hopes up that Philip Morris will be able to replicate the success it's seen there in other countries. Rival Imperial Brands (OTC:IMBB.Y), which sells the blu eCigs brand of electronic cigarettes, a one-time industry leader, thinks Japan is an anomaly, with CEO Alison Cooper telling tobacco webinar participants, "[W]e think there are a limited number of markets where there has been disruption, such as Japan."

The reason for the difference between Japan's resounding growth and the more modest uptake in other countries is regulation. In Japan, Philip Morris has little competition outside of traditional cigarettes, though British American Tobacco and Japan Tobacco have been scurrying to catch up. Most competing types of electronic cigarettes are effectively banned because the e-liquids used in those devices are classified as pharmaceutical ingredients, making them more expensive and difficult to obtain.

U.S. market may not gain traction

Philip Morris is counting on getting a reduced-risk label from the Food and Drug Administration (FDA) in the U.S. to give the iQOS a competitive edge. (The modified-risk label says a tobacco product is safer to use than traditional cigarettes because the device doesn't cause the same harm.) Without it, the iQOS may not be able to dislodge JUUL Labs' dominance of the U.S. market, where the company commands a 73% share.

That's why tobacco stocks actually jumped when the FDA threatened to crack down on e-cig manufacturers if they didn't do something to thwart access to their products by teens. Although they'd all feel the impact, none would be worse off than industry leader JUUL. The FDA just seized over 1,000 documents from JUUL in a surprise inspection last week related to its marketing practices.

Still, the iQOS might not be able to drive a wedge between users and the JUUL e-cig, and Philip Morris might not see the growth needed to meet its targets if it can't bring more people in Japan on board.

The tobacco giant cut its earnings guidance by $0.05 at the bottom of its previously forecast range and $0.10 at the top, now expecting profits of between $4.97 and $5.02 per share. The downward revision may be related to the unrest in Argentina and Turkey, and there may very well be more revisions to come as the year progresses if the dollar continues to strengthen and those currencies weaken, but slowing iQOS sales in Japan could add more cuts on top.

Philip Morris International says for every 2 million people who switch to its heat-not-burn device, it sees some $900 million in additional annual revenue. But revenue growth may decline unless the company can prove it can gain traction elsewhere.

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