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Patria downgrades Philip Morris CR from buy to hold, target price CZK 10,510 per share

6.6.2002 16:59

Despite the positive perspective in the short-term, the overall growth outlook for PM CR remains less encouraging as rising excise taxes, anti-smoking societal attitudes, and legislative policy shall undermine PM CR’s long-term results. Since PM CR’s current share price has approached our revised per-share target price of CZK 10,510, we downgrade our long- and short-term recommendations from buy to hold.

The short-term prospective for PM CR is rather positive despite the expected decline in cigarette exports to Slovakia this year. The strong Czech currency, the koruna, effectively reduces the company’s costs of purchased tobacco. As a result, we expect the company’s 2002 DPS to rise by 7% to CZK 1,328.

Moreover, as PM CR stock has a rather clear dividend history, relatively low risks and defensive characteristics, and as the number of tradable stocks on the Prague Stock Exchange is expected to dwindle, the stock’s liquidity may further increase.

In addition, the attractiveness of the stock to some investors is supported by speculation concerning a possible share buy-back (or buy-out), though such speculation emanates from outside the company, which has never commented on this issue.

However, the long-term outlook is not particularly encouraging. The expected accession of the Czech Republic to the EU and rising anti-smoking social sentiment are key factors that undermine the sector’s and PM CR’s performance in the long term.

We forecast that 2003 will be a turning point for the company, at which time sales and earnings will reverse their growing trend, particularly as domestic cigarette excise taxes will have to be harmonized with the EU’s within a three-year transition period once the CR joins the EU, which is expected in 2004. On the other hand, the stock’s ambiguous (or even negative) sensitivity to the EU entry-date, contrary to the other Czech blue chips, offers a unique hedge opportunity regarding the accession event.

We have adjusted our PM CR projections upward mostly due to an unexpected improvement in operating margins in the 2001 results. Consequently, we have raised our target price from CZK 8,550 to CZK 10,510 per PM CR share. Since the stock currently trades close to our revised fair value estimate, we downgrade our long- and short-term recommendations from buy to hold.

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Jan Hajek

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