Philip Morris Needs to Slash Prices to Spur Growth

Philip Morris International (PM 3.83%) and Altria (MO 0.70%) have a problem. The companies best-selling product, Marlboro, is reporting falling sales volumes as lower-cost competitors, such as British American Tobacco (BTI 0.51%) grab market share in the aggressive, highly competitive world of tobacco. 

Of course, Philip Morris' sales are also under pressure from changing opinions toward tobacco around the world. Indeed, as the number of smokers around the world declines, all international tobacco companies have been reporting falling sales volumes. However, Philip Morris' Marlboro brand is reporting faster declines than most because the brand is more expensive than most. Additionally, taxes on cigarettes are rising as countries seek to stamp out the smoking habit, making Marlboro, an expensive brand, even more costly.

Thanks to this data supplied by the Tobacco Atlas, we can see the price of the Marlboro brand in comparison to those of its local peers:

Declining sales
Philip Morris' volume of cigarettes shipped during the third quarter declined by 5.7%, led by a 2.5% decline in the total volume of Marlboro cigarettes. In comparison, international peer British American Tobacco reported that the volume of cigarettes that it shipped showed a 3% decline for the nine months ending in September.

However, British American did report that the volume shipped of its 'global drive' cigarette brands increased by 1.9% for the same period. The company's Dunhill brand led the increase with volume rising 9.6% and Pall Mall volume also rose 5.2%. That said, the company's Kent and Lucky Strike brands reported volume declines of 4% and 5.3% respectively. Still, overall growth is impressive within an environment that is generally considered to be undergoing a secular decline.

Marlboro Friday?
With its sales being pressured by cheaper competitors and investor returns coming under pressure, Philip Morris is starting to feel the pain. So could it be time for another Marlboro Friday?

Marlboro Friday is a reference to Friday, April 2, 1993 when Philip Morris slashed the price of Marlboro cigarettes in an attempt to compete with generic cigarette makers which were stealing the company's market share. Philip Morris' stock declined 26% after the announcement but two years later competitors had been priced out of the market and Philip Morris' share price had returned to normal levels. This was a game-changing move for Philip Morris as price wars like these usually result in a race to the bottom with no few winners. However, due to Philip Morris' global dominance and Marlboro's the company was able to steal customers from its competitors and keep them. 

It's different in the US
Back during 1993, Philip Morris International was combined with Philip Morris USA, now part of Altria. Nevertheless, Altria, which carries the Marlboro flag within the United States, is not reporting a sales decline comparable to that of its international peer.

Indeed, during the three months ending September 30 Altria reported that its volume of Marlboro branded cigarettes sold increased by 1.5%. That said, in the nine months ended September 30 the volume of Marlboro cigarettes shipped declined 3.8%.

Actually, Altria's third-quarter earnings statement shows us the effect the 'value' brands have had on cigarette sales. Specifically, during the third quarter the volume of premium Marlboro branded cigarettes and other premium brands sold by the company remained constant. However, the volume of discount cigarettes shipped rose by 5.1% for the quarter.

This trend was even more pronounced in the nine months to September 30 when the volume of Marlboro and other premium branded cigarettes shipped fell and the volume of discount cigarettes shipped rose by 5%.

Foolish summary
In conclusion, Philip Morris' sales are being pressured because the discount sector of the cigarette market is growing rapidly and stealing market share from Philip Morris' flagship Marlboro brand.

It might be that a price cut is just what Philip Morris needs to reignite its sales again and regain market share. In the short term this would mean lower profits for the company but over the long term Philip Morris could really reap the benefits. Moreover, Philip Morris has already proven that a strategy like this can work as its Marlboro brand loyalty is strong and a price war is unlikely to lead to any long-term damage for the company. Indeed, as Philip Morris proved back during 1993, cutting prices hurts profits in the short-term but drives long-term sales.