UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2002
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 1-8940
Philip Morris Companies Inc.
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(Exact name of registrant as specified in its charter)
Virginia 13-3260245
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
120 Park Avenue, New York, New York 10017
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (917) 663-5000
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Former name, former address and former fiscal year, if changed since last report
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months, and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
----- -----
At April 30, 2002, there were 2,139,554,033 shares outstanding of the
registrant's common stock, par value $0.33 1/3 per share.
PHILIP MORRIS COMPANIES INC.
TABLE OF CONTENTS
Page No.
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PART I - FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets at
March 31, 2002 and December 31, 2001 3 - 4
Condensed Consolidated Statements of Earnings for the
Three Months Ended March 31, 2002 and 2001 5
Condensed Consolidated Statements of Stockholders'
Equity for the Year Ended December 31, 2001 and the
Three Months Ended March 31, 2002 6
Condensed Consolidated Statements of Cash Flows for the
Three Months Ended March 31, 2002 and 2001 7 - 8
Notes to Condensed Consolidated Financial Statements 9 - 25
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 26 - 43
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 44
Item 4. Submission of Matters to a Vote of Security Holders 44
Item 6. Exhibits and Reports on Form 8-K 45
Signature 46
-2-
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements.
Philip Morris Companies Inc. and Subsidiaries
Condensed Consolidated Balance Sheets
(in millions of dollars)
(Unaudited)
March 31, December 31,
2002 2001
--------- ------------
ASSETS
Consumer products
Cash and cash equivalents $ 383 $ 453
Receivables (less allowances of
$170 and $193) 5,275 5,148
Inventories:
Leaf tobacco 3,567 3,827
Other raw materials 2,057 1,909
Finished product 3,251 3,187
------- -------
8,875 8,923
Other current assets 1,936 2,751
------- -------
Total current assets 16,469 17,275
Property, plant and equipment, at cost 25,735 25,625
Less accumulated depreciation 10,679 10,488
------- -------
15,056 15,137
Goodwill and other intangible assets, net 37,485 37,548
Other assets 5,884 6,144
------- -------
Total consumer products assets 74,894 76,104
Financial services
Finance assets, net 8,472 8,691
Other assets 178 173
------- -------
Total financial services assets 8,650 8,864
------- -------
TOTAL ASSETS $83,544 $84,968
======= =======
See notes to condensed consolidated financial statements.
Continued
-3-
Philip Morris Companies Inc. and Subsidiaries
Condensed Consolidated Balance Sheets (Continued)
(in millions of dollars, except per share data)
(Unaudited)
March 31, December 31,
2002 2001
--------- ------------
LIABILITIES
Consumer products
Short-term borrowings $ 1,614 $ 997
Current portion of long-term debt 1,897 1,942
Accounts payable 2,927 3,600
Accrued liabilities:
Marketing 2,717 2,794
Taxes, except income taxes 1,610 1,654
Employment costs 744 1,192
Settlement charges 1,733 3,210
Other 2,417 2,480
Income taxes 1,009 1,021
Dividends payable 1,246 1,251
-------- --------
Total current liabilities 17,914 20,141
Long-term debt 17,836 17,159
Deferred income taxes 5,227 5,238
Accrued postretirement health care costs 3,371 3,315
Minority interest 4,038 4,013
Other liabilities 7,912 7,796
-------- --------
Total consumer products liabilities 56,298 57,662
Financial services
Short-term borrowings 512
Long-term debt 1,935 1,492
Deferred income taxes 5,231 5,246
Other liabilities 398 436
-------- --------
Total financial services liabilities 7,564 7,686
-------- --------
Total liabilities 63,862 65,348
Contingencies (Note 7)
STOCKHOLDERS' EQUITY
Common stock, par value $0.33 1/3 per share
(2,805,961,317 shares issued) 935 935
Additional paid-in capital 4,457 4,503
Earnings reinvested in the business 38,454 37,269
Accumulated other comprehensive losses (including
currency translation of $3,493 and $3,238) (3,585) (3,373)
-------- --------
40,261 39,334
Less cost of repurchased stock
(665,529,324 and 653,458,100 shares) (20,579) (19,714)
-------- --------
Total stockholders' equity 19,682 19,620
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $83,544 $84,968
======= =======
See notes to condensed consolidated financial statements.
-4-
Philip Morris Companies Inc. and Subsidiaries
Condensed Consolidated Statements of Earnings
(in millions of dollars, except per share data)
(Unaudited)
For the Three Months Ended
March 31,
---------------------------
2002 2001
--------- --------
Net revenues $20,535 $19,959
Cost of sales 8,532 8,370
Excise taxes on products 4,575 4,433
------- -------
Gross profit 7,428 7,156
Marketing, administration and research costs 3,255 3,536
Amortization of intangibles 2 253
------- -------
Operating income 4,171 3,367
Interest and other debt expense, net 293 451
------- -------
Earnings before income taxes, minority interest and
cumulative effect of accounting change 3,878 2,916
Provision for income taxes 1,376 1,095
------- -------
Earnings before minority interest and cumulative effect of
accounting change 2,502 1,821
Minority interest in earnings 137 35
------- -------
Earnings before cumulative effect of accounting change 2,365 1,786
Cumulative effect of accounting change (6)
------- -------
Net earnings $ 2,365 $ 1,780
======= =======
Per share data:
Basic earnings per share before cumulative effect of
accounting change $1.10 $0.81
Cumulative effect of accounting change
----- -----
Basic earnings per share $1.10 $0.81
===== =====
Diluted earnings per share before cumulative effect of
accounting change $1.09 $0.80
Cumulative effect of accounting change
----- -----
Diluted earnings per share $1.09 $0.80
===== =====
Dividends declared $0.58 $0.53
===== =====
See notes to condensed consolidated financial statements.
-5-
Philip Morris Companies Inc. and Subsidiaries
Condensed Consolidated Statements of Stockholders' Equity
for the Year Ended December 31, 2001 and
the Three Months Ended March 31, 2002
(in millions of dollars, except per share data)
(Unaudited)
Accumulated Other
Comprehensive Losses
-----------------------------
Addi- Earnings Total
tional Reinvested Currency Cost of Stock-
Common Paid-in in the Translation Repurchased holders'
Stock Capital Business Adjustments Other Total Stock Equity
----- ------- -------- ----------- ----- ----- ----- ------
Balances, January 1, 2001 $935 $ -- $33,481 $(2,864) $(86) $(2,950) $(16,461) $15,005
Comprehensive earnings:
Net earnings 8,560 8,560
Other comprehensive losses,
net of income taxes:
Currency translation adjustments (753) (753) (753)
Additional minimum pension liability (89) (89) (89)
Change in fair value of derivatives
accounted for as hedges 33 33 33
-------
Total other comprehensive losses (809)
-------
Total comprehensive earnings 7,751
-------
Exercise of stock options and
issuance of other stock awards 138 70 747 955
Cash dividends
declared ($2.22 per share) (4,842) (4,842)
Stock repurchased (4,000) (4,000)
Sale of Kraft Foods Inc. common stock 4,365 379 7 386 4,751
---- ------ ------- ------- ---- ------- -------- -------
Balances, December 31, 2001 935 4,503 37,269 (3,238) (135) (3,373) (19,714) 19,620
Comprehensive earnings:
Net earnings 2,365 2,365
Other comprehensive losses,
net of income taxes:
Currency translation adjustments (255) (255) (255)
Additional minimum pension liability 1 1 1
Change in fair value of derivatives
accounted for as hedges 42 42 42
-------
Total other comprehensive losses (212)
-------
Total comprehensive earnings 2,153
-------
Exercise of stock options and
issuance of other stock awards (46) 63 235 252
Cash dividends
declared ($0.58 per share) (1,243) (1,243)
Stock repurchased (1,100) (1,100)
---- ------ ------- ------- ---- ------- -------- -------
Balances, March 31, 2002 $935 $4,457 $38,454 $(3,493) $(92) $(3,585) $(20,579) $19,682
==== ====== ======= ======= ==== ======= ======== =======
Total comprehensive earnings, which represent net earnings and the change in
fair value of derivatives accounted for as hedges, partially offset by currency
translation adjustments, were $1,635 million for the quarter ended March 31,
2001.
See notes to condensed consolidated financial statements.
-6-
Philip Morris Companies Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
(in millions of dollars)
(Unaudited)
For the Three Months Ended
March 31,
----------------------------
2002 2001
------ ------
CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES
Net earnings - Consumer products $ 2,322 $ 1,741
- Financial services 43 39
------ ------
Net earnings 2,365 1,780
Adjustments to reconcile net earnings to operating cash flows:
Consumer products
Cumulative effect of accounting change 6
Depreciation and amortization 334 588
Deferred income tax provision 736 479
Litigation related expenses 500
Loss on sale of a North American food factory and
integration costs 27 29
Cash effects of changes, net of the effects
from acquired and divested companies:
Receivables, net (322) (220)
Inventories 66 (219)
Accounts payable (757) (952)
Income taxes 22 (22)
Accrued liabilities and other current assets (1,774) (1,448)
Other 298 (77)
Financial services
Deferred income tax benefit (15) (7)
Other 120 120
------ ------
Net cash provided by operating activities 1,100 557
------ ------
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES
Consumer products
Capital expenditures (364) (320)
Purchases of businesses, net of acquired cash (62) (255)
Proceeds from sales of businesses 81
Other 11 26
Financial services
Investments in finance assets (61) (155)
Proceeds from finance assets 105 70
------ ------
Net cash used in investing activities (290) (634)
------ ------
See notes to condensed consolidated financial statements.
Continued
-7-
Philip Morris Companies Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows (Continued)
(in millions of dollars)
(Unaudited)
For the Three Months Ended
March 31,
----------------------------
2002 2001
------ ------
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES
Consumer products
Net issuance of short-term borrowings $ 2,043 $ 2,195
Long-term debt proceeds 13 15
Long-term debt repaid (738) (783)
Financial services
Net repayment of short-term borrowings (512) (68)
Long-term debt proceeds 440
Repurchase of Philip Morris common stock (1,087) (986)
Dividends paid on Philip Morris common stock (1,248) (1,171)
Issuance of Philip Morris common stock 306 351
Other (74) (11)
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Net cash used in financing activities (857) (458)
------- -------
Effect of exchange rate changes on cash and
cash equivalents (23) 24
------- -------
Cash and cash equivalents:
Decrease (70) (511)
Balance at beginning of period 453 937
------- -------
Balance at end of period $ 383 $ 426
======= =======
See notes to condensed consolidated financial statements.
-8-
Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Note 1. Accounting Policies:
-----------------------------
The interim condensed consolidated financial statements of Philip Morris
Companies Inc. (the "Company") are unaudited. It is the opinion of the Company's
management that all adjustments necessary for a fair statement of the interim
results presented have been reflected therein. All such adjustments were of a
normal recurring nature. Net revenues and net earnings for any interim period
are not necessarily indicative of results that may be expected for the entire
year.
These statements should be read in conjunction with the consolidated financial
statements and related notes, and management's discussion and analysis of
financial condition and results of operations which appear in the Company's
Annual Report to Stockholders and which are incorporated by reference into the
Company's Annual Report on Form 10-K for the year ended December 31, 2001 (the
"2001 Form 10-K").
Balance sheet accounts are segregated by two broad types of businesses. Consumer
products assets and liabilities are classified as either current or non-current,
whereas financial services assets and liabilities are unclassified, in
accordance with respective industry practices.
Certain prior year amounts have been reclassified to conform with the current
year's presentation.
Note 2. Recently Adopted Accounting Standards:
-----------------------------------------------
On January 1, 2002, the Company adopted Statement of Financial Accounting
Standards ("SFAS") No. 141, "Business Combinations" and SFAS No. 142, "Goodwill
and Other Intangible Assets." As a result, the Company stopped recording the
amortization of goodwill and indefinite life intangible assets as a charge to
earnings during the first quarter of 2002. The Company estimates that net
earnings and diluted earnings per share ("EPS") would have been approximately
$2.0 billion and $0.91, respectively, for the three months ended March 31, 2001,
had the provisions of the new standards been applied as of January 1, 2001. In
addition, the Company is required to conduct an annual review of goodwill and
intangible assets for potential impairment. The Company completed its review
and did not have to record a charge to earnings for an impairment of goodwill
or other intangible assets as a result of these new standards.
At March 31, 2002, goodwill by segment was as follows (in millions):
International tobacco $ 883
North American food 20,649
International food 3,888
Beer 186
-------
Total goodwill $25,606
=======
There were no material changes in the carrying amount of goodwill during the
three months ended March 31, 2002.
-9-
Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Intangible assets as of March 31, 2002 were as follows:
Carrying Accumulated
Amount Amortization
------- ------------
(in millions)
Non-amortizable intangible assets $11,847
Amortizable intangible assets 57 $25
------- ---
Total intangible assets $11,904 $25
======= ===
Non-amortizable intangible assets substantially comprise brand names purchased
through the Nabisco acquisition. Amortizable intangible assets consist primarily
of certain trademark licenses and non-compete agreements. The pre-tax
amortization expense for intangible assets during the quarter ended March 31,
2002 was $2 million. Based upon the amortizable intangible assets recorded on
the balance sheet as of March 31, 2002, amortization expense for each of the
next five years is estimated to be $8 million or less.
Effective January 1, 2002, the Company also adopted SFAS No. 144, "Accounting
for the Impairment or Disposal of Long-Lived Assets," which replaces SFAS No.
121, "Accounting for the Impairment of Long-Lived Assets and Long-Lived Assets
to be Disposed Of." SFAS No. 144 provides updated guidance concerning the
recognition and measurement of an impairment loss for certain types of
long-lived assets, expands the scope of a discontinued operation to include a
component of an entity and eliminates the exemption to consolidation when
control over a subsidiary is likely to be temporary. The adoption of this new
standard did not have a material impact on the Company's financial position,
results of operations or cash flows.
Effective January 1, 2002, the Company adopted Emerging Issues Task Force
("EITF") Issue No. 00-14, "Accounting for Certain Sales Incentives" and EITF
Issue No. 00-25, "Vendor Income Statement Characterization of Consideration Paid
to a Reseller of the Vendor's Products." The adoption of EITF Issues No. 00-14
and No. 00-25 resulted in a reduction of revenues of approximately $2.4 billion
in the first quarter of 2001. Marketing, administration and research costs were
reduced in the first quarter of 2001 by approximately $2.6 billion. Cost of
sales increased in the first quarter of 2001 by approximately $145 million and
excise taxes on products increased by approximately $56 million. The adoption of
these EITF Issues had no impact on net earnings or basic and diluted EPS.
Note 3. Financial Instruments:
-------------------------------
Effective January 1, 2001, the Company adopted SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities," and its related amendment, SFAS
No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging
Activities" (collectively referred to as "SFAS No. 133"). As of January 1, 2001,
the adoption of these new standards resulted in a cumulative effect of an
accounting change that reduced net earnings by $6 million, net of income taxes
of $3 million, and decreased accumulated other comprehensive losses by $15
million, net of taxes of $8 million.
During the quarters ended March 31, 2002 and 2001, ineffectiveness related to
fair value hedges and cash flow hedges were not material. The Company is hedging
forecasted transactions for periods not exceeding the next twenty-two months.
For the quarter ended March 31, 2002, the Company estimates derivative gains of
$52 million, net of taxes, reported in accumulated other comprehensive losses
will be reclassified to the consolidated statement of earnings within the next
twelve months.
During the quarters ended March 31, 2002 and 2001, a gain of $1 million, net of
income taxes, and $4 million, net of income taxes of $2 million, respectively,
which represented effective hedges of net investments, were reported as a
component of accumulated other comprehensive losses within currency translation
adjustments.
-10-
Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Hedging activity affected accumulated other comprehensive losses, net of income
taxes, as follows:
For the Three Months Ended
March 31,
-------------------------------
2002 2001
---- ----
(in millions)
Balance as of January 1 $ 33 $ -
Impact of SFAS No. 133 adoption 15
Derivative losses (gains) transferred to earnings 92 (30)
Change in fair value (50) 47
---- ----
Balance as of March 31 $ 75 $ 32
==== ====
Note 4. Acquisitions and Divestitures:
---------------------------------------
During the first quarter of 2002, Kraft Foods International, Inc. ("KFI")
acquired a biscuit company in Australia for an aggregate cost of $62 million and
Kraft Foods North America, Inc. ("KFNA") sold several small North American food
businesses, which were previously classified as businesses held for sale, for
$81 million.
During the first quarter of 2001, Philip Morris International, Inc. ("PMI")
increased its interest in an Argentine tobacco company for an aggregate cost of
$220 million. In addition, KFI purchased coffee businesses in Romania and
Morocco.
The operating results of businesses acquired and sold were not material to the
consolidated operating results of the Company in any of the periods presented.
-11-
Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Note 5. Earnings Per Share:
----------------------------
Basic and diluted EPS were calculated using the following:
For the Three Months Ended
March 31,
-------------------------------
2002 2001
---- ----
(in millions)
Earnings before cumulative effect of accounting change $2,365 $1,786
Cumulative effect of accounting change (6)
------ ------
Net earnings $2,365 $1,780
====== ======
Weighted average shares for basic EPS 2,145 2,201
Plus incremental shares from assumed conversions:
Restricted stock and stock rights 3 6
Stock options 23 22
------ ------
Weighted average shares for diluted EPS 2,171 2,229
====== ======
The number of shares of common stock excluded from the calculation of weighted
average shares for diluted EPS because their effects were antidilutive was
immaterial for the first quarter of 2002 and 2001.
Note 6. Segment Reporting:
---------------------------
The products of the Company's subsidiaries include cigarettes, food (consisting
principally of a wide variety of snacks, beverages, cheese, grocery products and
convenient meals) and beer. Another subsidiary of the Company, Philip Morris
Capital Corporation, is primarily engaged in leasing activities. The products
and services of these subsidiaries constitute the Company's reportable segments
of domestic tobacco, international tobacco, North American food, international
food, beer and financial services.
The Company's management reviews operating companies income to evaluate segment
performance and allocate resources. Operating companies income for the segments
excludes general corporate expenses and amortization of intangibles. Interest
and other debt expense, net, and provision for income taxes are centrally
managed at the corporate level and, accordingly, such items are not presented by
segment since they are excluded from the measure of segment profitability
reviewed by the Company's management.
-12-
Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Segment data were as follows:
For the Three Months Ended
March 31,
----------------------------
2002 2001
---- ----
(in millions)
Net revenues:
Domestic tobacco $ 5,018 $ 4,577
International tobacco 7,034 6,971
North American food 5,294 5,234
International food 1,853 1,963
Beer 1,219 1,114
Financial services 117 100
------- -------
Total net revenues $20,535 $19,959
======= =======
Operating companies income:
Domestic tobacco $ 1,250 $ 702
International tobacco 1,564 1,558
North American food 1,098 1,143
International food 252 239
Beer 107 124
Financial services 71 64
------- -------
Total operating companies income 4,342 3,830
Amortization of intangibles (2) (253)
General corporate expenses (169) (210)
------- -------
Total operating income 4,171 3,367
Interest and other debt expense, net (293) (451)
------- -------
Total earnings before income taxes, minority interest
and cumulative effect of accounting change $ 3,878 $ 2,916
======= =======
During 2002, a pre-tax charge of $27 million was recorded to consolidate food
production lines in North America. This pre-tax charge was included in
marketing, administration and research costs for the North American food
segment.
During 2002, a pre-tax charge of $15 million was recorded in marketing,
administration and research costs for a beer asset impairment.
During 2001, voluntary early retirement programs were announced for certain
eligible salaried employees in the beer and food businesses. During the first
quarter of 2002, approximately 800 employees accepted the benefits offered by
these programs and elected to retire or terminate employment. As a result,
pre-tax charges of $135 million, $7 million and $8 million were recorded in
marketing, administration and research costs of the North American food,
international food and beer segments, respectively, for the quarter ended March
31, 2002.
As discussed in Note 7. Contingencies, on May 7, 2001, the trial court in the
Engle class action approved a stipulation and agreed order among Philip Morris
Incorporated ("PM Inc."), certain other defendants and the plaintiffs providing
that the execution or enforcement of the punitive damages component of the
judgment in that case will remain stayed through the completion of all judicial
review. As a result of the stipulation, PM Inc. placed $500 million into a
separate interest-bearing escrow account that, regardless of the outcome of the
appeal, will be paid to the court and the court will determine how to allocate
or distribute it consistent with the Florida Rules of Civil Procedure. As a
result, a $500 million pre-tax charge was recorded in marketing, administration
and research costs of the domestic tobacco segment for the quarter ended March
31, 2001. In
-13-
Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
July 2001, PM Inc. also placed $1.2 billion into an interest-bearing escrow
account, which will be returned to PM Inc. should it prevail in its appeal of
the case. The $1.2 billion escrow account is included in the March 31, 2002 and
December 31, 2001 consolidated balance sheets as other assets. Interest income
on the $1.2 billion escrow account is paid to PM Inc. quarterly and is being
recorded as earned in the consolidated statement of earnings.
During the first quarter of 2001, KFNA sold a North American food factory, which
resulted in a pre-tax loss of $29 million.
Note 7. Contingencies:
-----------------------
Legal proceedings covering a wide range of matters are pending or threatened in
various United States and foreign jurisdictions against the Company, its
subsidiaries and affiliates, including PM Inc. and Philip Morris International
Inc. ("PMI"), the Company's international tobacco subsidiary, as well as their
respective indemnitees. Various types of claims are raised in these proceedings,
including product liability, consumer protection, antitrust, tax, patent
infringement, employment matters, claims for contribution and claims of
competitors and distributors.
Overview of Tobacco-Related Litigation
Types and Number of Cases
Pending claims related to tobacco products generally fall within the following
categories: (i) smoking and health cases alleging personal injury brought on
behalf of individual plaintiffs, (ii) smoking and health cases primarily
alleging personal injury and purporting to be brought on behalf of a class of
individual plaintiffs, (iii) health care cost recovery cases brought by
governmental (both domestic and foreign) and non-governmental plaintiffs seeking
reimbursement for health care expenditures allegedly caused by cigarette smoking
and/or disgorgement of profits, and (iv) other tobacco-related litigation. Other
tobacco-related litigation includes class action suits alleging that the use of
the terms "Lights" and "Ultra Lights" constitutes deceptive and unfair trade
practices, suits by foreign governments seeking to recover damages for taxes
lost as a result of the allegedly illegal importation of cigarettes into their
jurisdictions, suits by former asbestos manufacturers seeking contribution or
reimbursement for amounts expended in connection with the defense and payment of
asbestos claims that were allegedly caused in whole or in part by cigarette
smoking, and various antitrust suits. Damages claimed in some of the smoking and
health class actions, health care cost recovery cases and other tobacco-related
litigation range into the billions of dollars. In July 2000, a jury in a Florida
smoking and health class action returned a punitive damages award of
approximately $74 billion against PM Inc. (see discussion of the Engle case
below). Plaintiffs' theories of recovery and the defenses raised in the smoking
and health and health care cost recovery cases are discussed below. Exhibit 99.1
hereto lists the smoking and health class actions, health care cost recovery and
certain other actions pending as of May 1, 2002, and discusses certain
developments in such cases since March 19, 2002.
As of May 1, 2002 there were approximately 1,500 smoking and health cases filed
and served on behalf of individual plaintiffs in the United States against PM
Inc. and, in some instances, the Company, compared with approximately 1,500 such
cases on May 1, 2001, and approximately 390 such cases on May 1, 2000. In
certain jurisdictions, individual smoking and health cases have been aggregated
for trial in a single proceeding; the largest such proceeding aggregates 1,250
cases in West Virginia and is currently scheduled for trial in September 2002.
An estimated 12 of the individual cases involve allegations of various personal
injuries allegedly related to exposure to environmental tobacco smoke ("ETS").
In addition, approximately 2,825 additional individual cases are pending in
Florida by current and former flight attendants claiming personal injuries
allegedly related to ETS. The flight attendants allege that they are members of
an ETS smoking and health class action, which was settled in 1997. The terms of
the court-approved settlement in that case allow class members to file
individual lawsuits seeking compensatory damages, but prohibit them from seeking
-14-
Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
punitive damages.
As of May 1, 2002, there were an estimated 25 smoking and health purported class
actions pending in the United States against PM Inc. and, in some cases, the
Company (including four that involve allegations of various personal injuries
related to exposure to ETS), compared with approximately 31 such cases on May 1,
2001, and approximately 40 such cases on May 1, 2000. Some of these actions
purport to constitute statewide class actions and were filed after May 1996,
when the United States Court of Appeals for the Fifth Circuit reversed a federal
district court's certification of a purported nationwide class action on behalf
of persons who were allegedly "addicted" to tobacco products.
As of May 1, 2002, there were an estimated 44 health care cost recovery actions,
including the suit discussed below under "Federal Government's Lawsuit," filed
by the United States government, pending in the United States against PM Inc.
and, in some instances, the Company, compared with approximately 50 such cases
pending on May 1, 2001, and 50 such cases on May 1, 2000. In addition, health
care cost recovery actions are pending in Israel, the Marshall Islands, the
Province of British Columbia, Canada, France (in a case brought by a local
agency of the French social security health insurance system) and Spain.
There are also a number of other tobacco-related actions pending outside the
United States against PMI and its affiliates and subsidiaries, including an
estimated 70 smoking and health cases brought on behalf of individuals
(Argentina (42), Brazil (18), Czech Republic (1), Ireland (1), Israel (2), Italy
(1), Japan (1), the Philippines (1), Scotland (1), and Spain (2)), compared with
approximately 60 such cases on May 1, 2001, and 50 such cases on May 1, 2000. In
addition, as of May 1, 2002, there were eight smoking and health putative class
actions pending outside the United States (Brazil (1), Canada (3), and Spain
(4)), compared with 11 such cases on May 1, 2001 and ten such cases on May 1,
2000.
Pending and Upcoming Trials
A trial is underway in Florida in an individual smoking and health case in which
PM Inc. is a defendant. Jury selection is also proceeding in a smoking and
health class action in Louisiana in which PM Inc. is a defendant and in which
plaintiffs seek the creation of funds to pay for medical monitoring and smoking
cessation programs. In addition, later in May, trials are scheduled to begin in
California and Florida in two individual smoking and health cases in which PM
Inc. is a defendant and in three cases in Florida brought by flight attendants
seeking compensatory damages for personal injuries allegedly caused by ETS.
As set forth in Exhibit 99.2 hereto, additional cases against PM Inc. and, in
some instances, the Company, are scheduled for trial through the end of 2002.
They include two purported class actions in California in which plaintiffs seek
damages under the California Business and Professions Code for the costs of
cigarettes purchased by class members during the class period and a case in
West Virginia that aggregates 1,250 individual smoking and health cases,
an estimated 12 individual smoking and health cases and 12 additional cases
brought by flight attendants seeking compensatory damages for personal injuries
allegedly caused by ETS. Three of the individual smoking and health cases are
scheduled to begin in June and eight of the cases brought by flight attendants
are scheduled to begin in the next three months. Cases against other tobacco
companies are also scheduled for trial through the end of 2002. Trial dates,
however, are subject to change.
Recent Trial Results
Since January 1999, jury verdicts have been returned in 18 smoking and health
and health care cost recovery cases in which PM Inc. was a defendant. Verdicts
in favor of PM Inc. and other defendants were returned in 11 of the 18 cases.
These 11 cases were tried in Rhode Island, West Virginia, Ohio (2), New Jersey,
Florida, New York (2), Mississippi and Tennessee (2). Plaintiffs' appeals or
post-trial motions challenging the verdicts are pending in Rhode Island, West
Virginia and in Florida. In addition, a mistrial was declared in New York in
an asbestos contribution case, and plaintiffs subsequently voluntarily dismissed
the case. The chart below lists the verdicts
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Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
and post-trial developments in the seven cases that have gone to trial since
January 1999 in which verdicts were returned in favor of plaintiffs.
Location Type of Post-Trial
Date of Court Case Verdict Developments
---- -------- ---- ------- ------------
March Oregon Individual $168,500 in compensatory damages PM Inc. filed post-trial
2002 Smoking and and $150 million in punitive motions challenging the
Health damages against PM Inc. punitive damages award and, in
May 2002, the trial court reduced
the punitive damages award to
$100 million. PM Inc. intends to
file post-trial motions challenging
the verdict.
June California Individual $5.5 million in compensatory In August 2001, the trial court
2001 Smoking and damages, and $3 billion in reduced the punitive damages
Health punitive damages against PM Inc. award to $100 million; PM Inc.
has appealed.
June New York Health Care $17.8 million in compensatory In February 2002, the trial court
2001 Cost damages, including $6.8 million awarded plaintiffs $38 million in
Recovery against PM Inc. attorneys' fees. Defendants have
appealed.
July Florida Smoking and $145 billion in punitive damages See "Engle Class Action," below.
2000 Health against all defendants, including
Class Action $74 billion against PM Inc.
March California Individual $1.72 million in compensatory Defendants have appealed.
2000 Smoking and damages against PM Inc. and
Health another defendant, and $10
million in punitive damages
against PM Inc. and $10
million in punitive damages
against the other defendant.
March Oregon Individual $800,000 in compensatory The trial court reduced the
1999 Smoking and damages, $21,500 in medical punitive damages award to $32
Health expenses and $79.5 million in million, and PM Inc. has appealed.
punitive damages against PM Inc.
February California Individual $1.5 million in compensatory The trial court reduced the
1999 Smoking and damages and $50 million in punitive damages award to $25
Health punitive damages against PM Inc. million and PM Inc. appealed.
In November 2001, a California
District Court of Appeals affirmed
the trial court's ruling, and PM
Inc. has appealed to the
California Supreme Court.
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Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
In addition, since January 1999, jury verdicts have been returned in 12
tobacco-related cases in which neither the Company nor any of its subsidiaries
were defendants. Verdicts in favor of defendants were returned in eight of the
12 cases in cases tried in Connecticut, Texas, South Carolina, Mississippi,
Louisiana, Missouri and Tennessee (2). Plaintiffs' appeal is pending in
Mississippi. Verdicts in favor of plaintiffs were returned in four of the 12
cases in cases tried in Australia, Kansas and Florida (2). Defendants' appeal
or post-trial motions are pending. In addition, in a case in France the trial
court found in favor of plaintiff, however, the appellate court reversed the
trial court's ruling and dismissed plaintiff's claim.
Engle Class Action
Verdicts have been returned and judgment has been entered against PM Inc. and
other defendants in the first two phases of this three-phase smoking and health
class action trial in Florida. The class consists of all Florida residents and
citizens, and their survivors, "who have suffered, presently suffer or have died
from diseases and medical conditions caused by their addiction to cigarettes
that contain nicotine."
In July 1999, the jury returned a verdict against defendants in phase one of the
trial concerning certain issues determined by the trial court to be "common" to
the causes of action of the plaintiff class. Among other things, the jury found
that smoking cigarettes causes 20 diseases or medical conditions, that
cigarettes are addictive or dependence-producing, defective and unreasonably
dangerous, that defendants made materially false statements with the intention
of misleading smokers, that defendants concealed or omitted material information
concerning the health effects and/or the addictive nature of smoking cigarettes,
and that defendants were negligent and engaged in extreme and outrageous conduct
or acted with reckless disregard with the intent to inflict emotional distress.
During phase two of the trial, the claims of three of the named plaintiffs were
adjudicated in a consolidated trial before the same jury that returned the
verdict in phase one. In April 2000, the jury determined liability against the
defendants and awarded $12.7 million in compensatory damages to the three named
plaintiffs.
In July 2000, the same jury returned a verdict assessing punitive damages on a
lump sum basis for the entire class totaling approximately $145 billion against
the various defendants in the case, including approximately $74 billion
severally against PM Inc. PM Inc. believes that the punitive damages award was
determined improperly and that it should ultimately be set aside on any one of
numerous grounds. Included among these grounds are the following: under
applicable law, (i) defendants are entitled to have liability and damages for
each plaintiff tried by the same jury, an impossibility due to the jury's
dismissal; (ii) punitive damages cannot be assessed before the jury determines
entitlement to, and the amount of, compensatory damages for all class members;
(iii) punitive damages must bear a reasonable relationship to compensatory
damages, a determination that cannot be made before compensatory damages are
assessed for all class members; and (iv) punitive damages can "punish" but
cannot "destroy" the defendant. In March 2000, at the request of the Florida
legislature, the Attorney General of Florida issued an advisory legal opinion
stating that "Florida law is clear that compensatory damages must be determined
prior to an award of punitive damages" in cases such as Engle. As noted above,
compensatory damages for all but three members of the class have not been
determined.
Following the verdict in the second phase of the trial, the jury was dismissed,
notwithstanding that liability and compensatory damages for all but three class
members have not yet been determined. According to the trial plan, phase three
of the trial will address other class members' claims, including issues of
specific causation, reliance, affirmative defenses and other individual-specific
issues regarding entitlement to damages, in individual trials before separate
juries.
It is unclear how the trial plan will be further implemented. The trial plan
provides that the punitive damages award should be standard as to each class
member and acknowledges that the actual size of the class will not be known
until the last class member's case has withstood appeal, i.e., the punitive
damages amount would be divided equally among those plaintiffs who, in addition
to the successful phase two plaintiffs, are ultimately successful in phase three
of the trial and in any appeal.
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Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Following the jury's punitive damages verdict in July 2000, defendants removed
the case to federal district court following the intervention application of a
union health fund that raised federal issues in the case. In November 2000, the
federal district court remanded the case to state court on the grounds that the
removal was premature.
The trial judge in the state court, without a hearing, then immediately denied
the defendants' post-trial motions and entered judgment on the compensatory and
punitive damages awarded by the jury. PM Inc. and the Company believe that the
entry of judgment by the trial court is unconstitutional and violates Florida
law. PM Inc. has filed an appeal with respect to the entry of judgment, class
certification and numerous other reversible errors that have occurred during the
trial. PM Inc. has also posted a $100 million bond to stay execution of the
judgment with respect to the $74 billion in punitive damages that has been
awarded against it. The bond was posted pursuant to legislation that was enacted
in Florida in May 2000 that limits the size of the bond that must be posted in
order to stay execution of a judgment for punitive damages in a certified class
action to no more than $100 million, regardless of the amount of punitive
damages ("bond cap legislation").
Plaintiffs had previously indicated that they believe the bond cap legislation
is unconstitutional and might seek to challenge the $100 million bond. If the
bond were found to be invalid, it would be commercially impossible for PM Inc.
to post a bond in the full amount of the judgment and, absent appellate relief,
PM Inc. would not be able to stay any attempted execution of the judgment in
Florida. PM Inc. and the Company will take all appropriate steps to seek to
prevent this worst-case scenario from occurring. In May 2001, the trial court
approved a stipulation (the "Stipulation") among PM Inc., certain other
defendants, plaintiffs and the plaintiff class that provides that execution or
enforcement of the punitive damages component of the Engle judgment will remain
stayed against PM Inc. and the other participating defendants through the
completion of all judicial review. As a result of the Stipulation and in
addition to the $100 million bond it previously posted, PM Inc. placed $1.2
billion into an interest-bearing escrow account for the benefit of the Engle
class. Should PM Inc. prevail in its appeal of the case, both amounts are to be
returned to PM Inc. PM Inc. also placed an additional $500 million into a
separate interest-bearing escrow account for the benefit of the Engle class. If
PM Inc. prevails in its appeal, this amount will be paid to the court, and the
court will determine how to allocate or distribute it consistent with the
Florida Rules of Civil Procedure. In connection with the Stipulation, the
Company recorded a $500 million pre-tax charge in its consolidated statement of
earnings for the quarter ended March 31, 2001.
In other developments, in August 1999, the trial judge denied a motion filed by
PM Inc. and other defendants to disqualify the judge. The motion asserted, among
other things, that the trial judge was required to disqualify himself because he
is a former smoker who has a serious medical condition of a type that the
plaintiffs claim, and the jury has found, is caused by smoking, making him
financially interested in the result of the case and, under plaintiffs' theory
of the case, a member of the plaintiff class. The Third District Court of
Appeals denied defendants' petition to disqualify the trial judge. In January
2000, defendants filed a petition for a writ of certiorari to the United States
Supreme Court requesting that it review the issue of the trial judge's
disqualification, and in May 2000 the writ of certiorari was denied.
PM Inc. and the Company remain of the view that the Engle case should not have
been certified as a class action. The certification is inconsistent with the
overwhelming majority of federal and state court decisions that have held that
mass smoking and health claims are inappropriate for class treatment. PM Inc.
has filed an appeal challenging the class certification and the compensatory and
punitive damages awards, as well as numerous other reversible errors that it
believes occurred during the trial to date.
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Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Smoking and Health Litigation
Plaintiffs' allegations of liability in smoking and health cases are based on
various theories of recovery, including negligence, gross negligence, strict
liability, fraud, misrepresentation, design defect, failure to warn, breach of
express and implied warranties, breach of special duty, conspiracy, concert of
action, violations of deceptive trade practice laws and consumer protection
statutes, and claims under the federal and state RICO statutes. In certain of
these cases, plaintiffs claim that cigarette smoking exacerbated the injuries
caused by their exposure to asbestos. Plaintiffs in the smoking and health
actions seek various forms of relief, including compensatory and punitive
damages, treble/multiple damages and other statutory damages and penalties,
creation of medical monitoring and smoking cessation funds, disgorgement of
profits, and injunctive and equitable relief. Defenses raised in these cases
include lack of proximate cause, assumption of the risk, comparative fault
and/or contributory negligence, statutes of limitations and preemption by the
Federal Cigarette Labeling and Advertising Act. In May 1996, the United States
Court of Appeals for the Fifth Circuit held in the Castano case that a class
consisting of all "addicted" smokers nationwide did not meet the standards and
requirements of the federal rules governing class actions. Since this class
decertification, lawyers for plaintiffs have filed numerous putative smoking and
health class action suits in various state and federal courts. In general, these
cases purport to be brought on behalf of residents of a particular state or
states (although a few cases purport to be nationwide in scope) and raise
"addiction" claims and, in many cases, claims of physical injury as well. As of
May 1, 2002, smoking and health putative class actions were pending in Alabama,
California, Florida, Illinois, Indiana, Louisiana, Michigan, Missouri, New
York, North Carolina, Ohio, Oregon, Tennessee, Utah, West Virginia and the
District of Columbia, as well as in Brazil, Canada, Israel and Spain. Class
certification has been denied or reversed by courts in 29 smoking and health
class actions involving PM Inc. in Arkansas, the District of Columbia, Illinois
(2), Iowa, Kansas, Louisiana, Maryland, Michigan, Minnesota, Nevada (4), New
Jersey (6), New York (2), Ohio, Oklahoma, Pennsylvania, Puerto Rico, South
Carolina, Texas and Wisconsin, while classes remain certified in the Engle case
in Florida (discussed above) and a case in Louisiana in which plaintiffs seek
the creation of funds to pay for medical monitoring and smoking cessation
programs for class members. In May 1999, the United States Supreme Court
declined to review the decision of the United States Court of Appeals for the
Third Circuit affirming a lower court's decertification of a class. In
November 2001, in the first medical monitoring class action case to go to
trial, a West Virginia jury returned a verdict in favor of all defendants,
including PM Inc.; in January 2002, the trial court denied plaintiffs' motion
for a new trial.
Health Care Cost Recovery Litigation
Overview
In certain pending proceedings, domestic and foreign governmental entities and
non-governmental plaintiffs, including union health and welfare funds
("unions"), Native American tribes, insurers and self-insurers such as Blue
Cross and Blue Shield plans, hospitals, taxpayers and others, are seeking
reimbursement of health care cost expenditures allegedly caused by tobacco
products and, in some cases, of future expenditures and damages as well. Relief
sought by some but not all plaintiffs includes punitive damages, multiple
damages and other statutory damages and penalties, injunctions prohibiting
alleged marketing and sales to minors, disclosure of research, disgorgement of
profits, funding of anti-smoking programs, additional disclosure of nicotine
yields, and payment of attorney and expert witness fees. Certain of the health
care cost recovery cases purport to be brought on behalf of a class of
plaintiffs.
The claims asserted in the health care cost recovery actions include the
equitable claim that the tobacco industry was "unjustly enriched" by plaintiffs'
payment of health care costs allegedly attributable to smoking, the equitable
claim of indemnity, common law claims of negligence, strict liability, breach of
express and implied warranty, violation of a voluntary undertaking or special
duty, fraud, negligent misrepresentation, conspiracy, public nuisance, claims
under federal and state statutes governing consumer fraud, antitrust, deceptive
trade
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Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
practices and false advertising, and claims under federal and state RICO
statutes.
Defenses raised include lack of proximate cause, remoteness of injury, failure
to state a valid claim, lack of benefit, adequate remedy at law, "unclean hands"
(namely, that plaintiffs cannot obtain equitable relief because they
participated in, and benefited from, the sale of cigarettes), lack of antitrust
standing and injury, federal preemption, lack of statutory authority to bring
suit, and statutes of limitations. In addition, defendants argue that they
should be entitled to "set off" any alleged damages to the extent the plaintiff
benefits economically from the sale of cigarettes through the receipt of excise
taxes or otherwise. Defendants also argue that these cases are improper because
plaintiffs must proceed under principles of subrogation and assignment. Under
traditional theories of recovery, a payor of medical costs (such as an insurer)
can seek recovery of health care costs from a third party solely by "standing in
the shoes" of the injured party. Defendants argue that plaintiffs should be
required to bring any actions as subrogees of individual health care recipients
and should be subject to all defenses available against the injured party.
Although there have been some decisions to the contrary, most courts that have
decided motions in these cases have dismissed all or most of the claims against
the industry. In addition, eight federal circuit courts of appeals, the Second,
Third, Fifth, Seventh, Eighth, Ninth, Eleventh and District of Columbia
circuits, as well as California and Tennessee intermediate appellate courts,
relying primarily on grounds that plaintiffs' claims were too remote, have
affirmed dismissals of, or reversed trial courts that had refused to dismiss,
health care cost recovery actions. The United States Supreme Court has refused
to consider plaintiffs' appeals from the cases decided by the courts of appeals
for the Second, Third, Ninth and District of Columbia circuits.
As of May 1, 2002, there were an estimated 44 health care cost recovery cases
pending in the United States against PM Inc., and in some instances, the
Company, including the case filed by the United States government, which is
discussed below under "Federal Government's Lawsuit."
The cases brought in the United States include actions brought by Belize,
Bolivia, Ecuador, Guatemala, Honduras, Nicaragua, the Province of Ontario,
Canada, Panama, the Russian Federation, Tajikistan, Ukraine, Venezuela, 11
Brazilian states, 11 Brazilian cities and a group of Argentine unions. The
actions brought by Belize, Bolivia, Ecuador, Guatemala, Honduras, Nicaragua, the
Province of Ontario, Panama, the Russian Federation, Tajikistan, Ukraine,
Venezuela, 10 Brazilian states and 11 Brazilian cities were consolidated for
pre-trial purposes and transferred to the United States District Court for the
District of Columbia. The court has remanded the cases of Venezuela, Ecuador and
two Brazilian states to state court in Florida. Defendants appealed to the
United States Court of Appeals for the District of Columbia Circuit, which held
that it lacked jurisdiction to review the remand orders and could not prohibit
the district court from remanding to state court those cases upon which the
district court had not yet acted. Subsequent to remand, the Ecuador case was
voluntarily dismissed. In November 2001, the cases brought by Venezuela and the
Brazilian state of Espirito Santo were dismissed by the state court, and
Venezuela has appealed. The district court dismissed the cases brought by
Guatemala, Nicaragua, Ukraine, and the Province of Ontario, and plaintiffs
appealed. In May 2001, the United States Court of Appeals for the District of
Columbia Circuit affirmed the district court's dismissals of the cases brought
by Guatemala, Nicaragua and Ukraine, and in October 2001, the United States
Supreme Court refused to consider plaintiffs' appeal. In November 2001, the
Province of Ontario voluntarily dismissed its appeal. In January 2001, the
Superior Court of the District of Columbia dismissed the suit brought by the
Argentine unions. In addition to cases brought in the United States, health care
cost recovery actions have also been brought in Israel, the Marshall Islands,
the Province of British Columbia, Canada, France and Spain, and other entities
have stated that they are considering filing such actions. In May 2002, the
Supreme Court of the Republic of the Marshall Islands affirmed the trial
court's dismissal of the Marshall Islands case.
In March 1999, in the first health care cost recovery case to go to trial, an
Ohio jury returned a verdict in favor of defendants on all counts. In June 2001,
a New York jury returned a verdict awarding $6.83 million in compensatory
damages against PM Inc. and a total of $11 million against four other defendants
in a health care cost recovery action brought by a Blue Cross and Blue Shield
plan. In February 2002, the court awarded
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Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
plaintiff approximately $38 million for attorneys' fees. Defendants, including
PM Inc., have appealed.
Settlements of Health Care Cost Recovery Litigation
In November 1998, PM Inc. and certain other United States tobacco product
manufacturers entered into the Master Settlement Agreement (the "MSA") with 46
states, the District of Columbia, Puerto Rico, Guam, the United States Virgin
Islands, American Samoa and the Northern Marianas to settle asserted and
unasserted health care cost recovery and other claims. PM Inc. and certain other
United States tobacco product manufacturers had previously settled similar
claims brought by Mississippi, Florida, Texas and Minnesota (together with the
MSA, the "State Settlement Agreements"). The MSA has received final judicial
approval in all 52 settling jurisdictions.
The State Settlement Agreements require that the domestic tobacco industry make
substantial annual payments in the following amounts (excluding future annual
payments contemplated by the agreement with tobacco growers discussed below),
subject to adjustment for several factors, including inflation, market share and
industry volume: 2002, $11.3 billion; 2003, $10.9 billion; 2004 through 2007,
$8.4 billion each year; and, thereafter, $9.4 billion each year. In addition,
the domestic tobacco industry is required to pay settling plaintiffs' attorneys'
fees, subject to an annual cap of $500 million, as well as additional annual
payments of $250 million through 2003. These payment obligations are the several
and not joint obligations of each settling defendant. PM Inc.'s portion of
ongoing adjusted payments and legal fees is based on its relative share of the
settling manufacturers' domestic cigarette shipments, including roll-your-own
cigarettes, in the year preceding that in which the payment is due. PM Inc.
records its portions of ongoing settlement payments as part of cost of sales as
product is shipped.
The State Settlement Agreements also include provisions, discussed below in
Management's Discussion and Analysis of Financial Condition and Results of
Operations, relating to advertising and marketing restrictions, public
disclosure of certain industry documents, limitations on challenges to certain
tobacco control and underage use laws, restrictions on lobbying activities and
other provisions.
As part of the MSA, the settling defendants committed to work cooperatively with
the tobacco-growing states to address concerns about the potential adverse
economic impact of the MSA on tobacco growers and quota-holders. To that end,
four of the major domestic tobacco product manufacturers, including PM Inc., and
the grower states, have established a trust fund to provide aid to tobacco
growers and quota-holders. The trust will be funded by these four manufacturers
over 12 years with payments, prior to application of various adjustments,
scheduled to total $5.15 billion. Future industry payments (2002 through 2008,
$500 million each year; 2009 and 2010, $295 million each year) are subject to
adjustment for several factors, including inflation, United States cigarette
volume and certain other contingent events, and, in general, are to be allocated
based on each manufacturer's relative market share. PM Inc. records its portion
of these payments as part of cost of sales as product is shipped.
The State Settlement Agreements have materially adversely affected the volumes
of PM Inc. and the Company; the Company believes that they may materially
adversely affect the business, volumes, results of operations, cash flows or
financial position of PM Inc. and the Company in future periods. The degree of
the adverse impact will depend, among other things, on the rates of decline in
United States cigarette sales in the premium and discount segments, PM Inc.'s
share of the domestic premium and discount cigarette segments, and the effect of
any resulting cost advantage of manufacturers not subject to the MSA and the
other State Settlement Agreements.
Certain litigation, described in Exhibit 99.1, has arisen challenging the
validity of the MSA and alleging violations of antitrust laws.
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Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Federal Government's Lawsuit
In 1999, the United States government filed a lawsuit in the United States
District Court for the District of Columbia against various cigarette
manufacturers and others, including PM Inc. and the Company, asserting claims
under three federal statutes, the Medical Care Recovery Act ("MCRA"), the
Medicare Secondary Payer ("MSP") provisions of the Social Security Act and the
Racketeer Influenced and Corrupt Organizations Act ("RICO"). The lawsuit seeks
to recover an unspecified amount of health care costs for tobacco-related
illnesses allegedly caused by defendants' fraudulent and tortious conduct and
paid for by the government under various federal health care programs, including
Medicare, military and veterans' health benefits programs, and the Federal
Employees Health Benefits Program. The complaint alleges that such costs total
more than $20 billion annually. It also seeks various types of what it alleges
to be equitable and declaratory relief, including disgorgement, an injunction
prohibiting certain actions by the defendants, and a declaration that the
defendants are liable for the federal government's future costs of providing
health care resulting from defendants' alleged past tortious and wrongful
conduct. PM Inc. and the Company moved to dismiss this lawsuit on numerous
grounds, including that the statutes invoked by the government do not provide a
basis for the relief sought. In September 2000, the trial court dismissed the
government's MCRA and MSP claims, but permitted discovery to proceed on the
government's claims for relief under RICO. In October 2000, the government moved
for reconsideration of the trial court's order to the extent that it dismissed
the MCRA claims for health care costs paid pursuant to government health benefit
programs other than Medicare and the Federal Employees Health Benefits Act. In
February 2001, the government filed an amended complaint attempting to replead
the MSP claims. In July 2001, the court denied the government's motion for
reconsideration of the dismissal of the MCRA claims and dismissed the
government's amended MSP claims. Trial of the case is currently scheduled for
July 2003.
In June 2001, representatives of the Department of Justice invited the
defendants, including PM Inc. and the Company, to participate in settlement
discussions. A meeting with representatives of the Department of Justice was
held in July 2001. PM Inc. and the Company cannot predict whether discussions
will continue or the outcome of any such discussions. The Company and PM Inc.
believe that they have a number of valid defenses to the lawsuit and will
continue to vigorously defend it.
Certain Other Tobacco-Related Litigation
Lights/Ultra Lights Cases: As of May 1, 2002, there were 13 putative class
actions pending against PM Inc. and the Company in California, Florida,
Illinois, Massachusetts, Minnesota, Missouri, New Hampshire (2), New Jersey,
Ohio (2), Tennessee and West Virginia on behalf of individuals who purchased and
consumed various brands of cigarettes, including Marlboro Lights, Marlboro Ultra
Lights, Virginia Slims Lights and Superslims, Merit Lights and Cambridge Lights.
Plaintiffs in these cases allege, among other things, that the use of the terms
"Lights" and/or "Ultra Lights" constitutes deceptive and unfair trade practices,
and seek injunctive and equitable relief, including restitution. Classes have
been certified in Illinois, Massachusetts and Florida. Trial in the Illinois
case is scheduled for January 2003.
Cigarette Importation Cases: As of May 1, 2002, the European Community and ten
member states, various Departments of Colombia, Ecuador, Belize and Honduras had
filed suits in the United States against the Company and certain of its
subsidiaries, including PM Inc. and PMI, and other cigarette manufacturers and
their affiliates, alleging that defendants sold to distributors cigarettes that
would be illegally imported into the plaintiff jurisdictions in an effort to
evade taxes. The claims asserted in these cases include negligence, negligent
misrepresentation, fraud, unjust enrichment, violations of RICO and its
state-law equivalents and conspiracy. Plaintiffs in these cases seek actual
damages, treble damages and undisclosed injunctive relief. In February 2002, the
courts granted defendants' motions to dismiss all of the actions. In the
Colombia and European Community actions, however, the RICO and fraud claims
predicated on allegations of money laundering claims were dismissed without
prejudice. Plaintiffs in each of the cases have appealed. In October
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Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
2001, the United States Court of Appeals for the Second Circuit affirmed the
dismissal of a cigarette importation case filed against another cigarette
manufacturer and in March 2002, plaintiff in that case petitioned the United
States Supreme Court for further review.
Asbestos Contribution Cases: As of May 1, 2002, an estimated 12 suits were
pending on behalf of former asbestos manufacturers and affiliated entities
against domestic tobacco manufacturers, including PM Inc. These cases seek,
among other things, contribution or reimbursement for amounts expended in
connection with the defense and payment of asbestos claims that were allegedly
caused in whole or in part by cigarette smoking. Plaintiffs in most of these
cases also seek punitive damages. The aggregate amounts claimed in these cases
range into the billions of dollars.
Retail Leaders Case: Three domestic tobacco manufacturers filed suit against
PM Inc. seeking to enjoin the PM Inc. "Retail Leaders" program that became
available to retailers in October 1998. The complaint alleges that this retail
merchandising program is exclusionary, creates an unreasonable restraint of
trade and constitutes unlawful monopolization. In addition to an injunction,
plaintiffs seek unspecified treble damages, attorneys' fees, costs and interest.
In June 1999, the court issued a preliminary injunction enjoining PM Inc. from
prohibiting retail outlets that participate in the program at one of the levels
from installing competitive permanent signage in any section of the "industry
fixture" that displays or holds packages of cigarettes manufactured by a firm
other than PM Inc., or requiring those outlets to allocate a percentage of
cigarette-related permanent signage to PM Inc. greater than PM Inc.'s market
share. The court also enjoined PM Inc. from prohibiting retailers participating
in the program from advertising or conducting promotional programs of cigarette
manufacturers other than PM Inc. In October 2001, PM Inc. moved for summary
judgment dismissing all of plaintiffs' claims. In May 2002, the court granted
the summary judgment motion and dismissed all of the claims with prejudice and
also dissolved the preliminary injunction.
Vending Machine Case: Plaintiffs, who began their case as a purported nationwide
class of cigarette vending machine operators, allege that PM Inc. has violated
the Robinson-Patman Act in connection with its promotional and merchandising
programs available to retail stores and not available to cigarette vending
machine operators. The initial complaint was amended to bring the total number
of plaintiffs to 211, but by stipulated orders, all claims were stayed, except
those of ten plaintiffs that proceeded to pre-trial discovery. Plaintiffs
request actual damages, treble damages, injunctive relief, attorneys' fees and
costs, and other unspecified relief. In June 1999, the court denied plaintiffs'
motion for a preliminary injunction. Plaintiffs have withdrawn their request for
class action status. In August 2001, the court granted PM Inc.'s motion for
summary judgment and dismissed, with prejudice, the claims of the ten
plaintiffs. In October 2001, the court certified its decision for appeal to the
United States Court of Appeals for the Sixth Circuit following the stipulation
of all plaintiffs that the district court's dismissal would, if affirmed, be
binding on all plaintiffs.
Tobacco Price Cases: As of May 1, 2002, there were 36 putative class actions
pending against PM Inc. and other domestic tobacco manufacturers, as well as, in
certain instances, the Company and PMI, alleging that defendants conspired to
fix cigarette prices in violation of antitrust laws. Seven of the putative class
actions were filed in various federal district courts by direct purchasers of
tobacco products, and the remaining 29 were filed in 14 states and the District
of Columbia by retail purchasers of tobacco products. In November 2001,
plaintiffs' motion for class certification was granted in a case pending in
state court in Kansas. In November 2001, plaintiffs' motion for class
certification was denied in a case pending in state court in Minnesota.
Plaintiffs' motion for class certification and defendants' motions for summary
judgment are pending in the State of Michigan. The seven federal class actions
have been consolidated in the United States District Court for the Northern
District of Georgia. In November 2000, the district court granted in part and
denied in part defendants' motion to dismiss portions of the consolidated
complaint. The court certified a class of plaintiffs who made direct purchases
between February 1996 and February 2000. In June 2001, the court granted
defendants' motion to dismiss the fraudulent concealment allegations in the
complaint. In February 2002, defendants moved for summary judgment dismissing
plaintiffs' claims, and a hearing on the motion was held in April 2002.
The cases
-23-
Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
are listed in Exhibit 99.1.
Cases Under the California Business and Professional Code: In June 1997 and
July 1998, two suits were filed in California courts alleging that domestic
cigarette manufacturers, including PM Inc. and others, have violated
California Business and Professions Code Sections 17200 and 17500 regarding
unfair and fraudulent business practices. Class certification was granted as to
plaintiffs' claims that defendants violated sections 17200 and/or 17500 of
California Business and Professions Code pursuant to which plaintiffs allege
that class members are entitled to reimbursement of the costs of cigarettes
purchased during the class periods and injunctive relief. Trials in the cases
are scheduled for July 2002 and October 2002.
Tobacco Growers' Case: In February 2000, a suit was filed on behalf of a
purported class of tobacco growers and quota-holders, and amended complaints
were filed in May 2000 and in August 2000. The second amended complaint alleges
that defendants, including PM Inc., violated antitrust laws by bid-rigging and
allocating purchases at tobacco auctions and by conspiring to undermine the
tobacco quota and price-support program administered by the federal government.
In October 2000, defendants filed motions to dismiss the amended complaint and
to transfer the case, and plaintiffs filed a motion for class certification. In
November 2000, the court granted defendants' motion to transfer the case to the
United States District Court for the Middle District of North Carolina. In
December 2000, plaintiffs served a motion for leave to file a third amended
complaint to add tobacco leaf buyers as defendants. This motion was granted, and
the additional parties were served in February 2001. In March 2001, the leaf
buyer defendants filed a motion to dismiss the case. In July 2001, the court
denied the manufacturer and leaf buyer defendants' motions to dismiss the case,
and in April 2002 granted plaintiffs' motion for class certification. Defendants
have petitioned the United States Court of Appeals for the Fourth Circuit for
review of the class certification ruling.
Consolidated Putative Punitive Damages Cases: In September 2000, a putative
class action was filed in the federal district court in the Eastern District of
New York that purports to consolidate punitive damages claims in ten
tobacco-related actions currently pending in the federal district court in the
Eastern Districts of New York and Pennsylvania. In November 2000, the court
hearing this case indicated that, in its view, it appears likely that plaintiffs
will be able to demonstrate a basis for certification of an opt-out compensatory
damages class and a non-opt-out punitive damages class. In December 2000,
plaintiffs served a motion for leave to file an amended complaint and a motion
for class certification. A hearing on plaintiffs' motion for class certification
was held in March 2001.
Certain Other Actions
National Cheese Exchange Cases: Since 1996, seven putative class actions have
been filed by various dairy farmers alleging that Kraft and others engaged in a
conspiracy to fix and depress the prices of bulk cheese and milk through their
trading activity on the National Cheese Exchange. Plaintiffs seek injunctive and
equitable relief and unspecified treble damages. Plaintiffs voluntarily
dismissed two of the actions after class certification was denied. Three cases
were consolidated in state court in Wisconsin, and in November 1999, the court
granted Kraft's motion for summary judgment. In June 2001, the Wisconsin Court
of Appeals affirmed the trial court's ruling dismissing the cases. In April
2002, the Wisconsin Supreme Court affirmed the intermediate appellate court's
ruling. Kraft's motion to dismiss was granted in a case pending in the United
States District Court for the Central District of California. The United States
Court of Appeals for the Ninth Circuit reversed and remanded the case for
further proceedings. Following the remand, in April 2002, the district court
granted a motion for summary judgment dismissing the case. A case in Illinois
state court has been settled and dismissed. No classes have been certified in
any of the cases.
Italian Tax Matters: One hundred ninety-four tax assessments alleging the
nonpayment of taxes in Italy (value-added taxes for the years 1988 to 1996 and
income taxes for the years 1987 to 1996) have been served upon certain
affiliates of the Company, including six new assessments (for the year 1996),
which were served in October and December 2001. The aggregate amount of alleged
unpaid taxes assessed to date is the euro equivalent of $2.1 billion. In
addition, the euro equivalent of $3.1 billion in interest and penalties has been
assessed. The Company anticipates that value-added and income tax assessments
may also be received with respect to subsequent years. All of the assessments
are being vigorously contested. To date, the Italian administrative tax court in
Milan has overturned 188 of the assessments. The decisions to overturn 185
assessments have been appealed by the tax authorities to the regional appellate
court in Milan. To date, the regional appellate court has rejected 72 of the
appeals filed by the tax authorities. The tax authorities have appealed 45 of
the 72 decisions of the regional appellate court to the Italian Supreme Court,
and a hearing on
-24-
Philip Morris Companies Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
(Unaudited)
these cases was held in December 2001. Six of the 51 decisions were not appealed
and are now final. In March 2002, the Italian Supreme Court rejected 12 of the
45 appeals and these 12 cases are now final. Also in March 2002, the Italian
Supreme Court vacated the decisions of the regional appellate court in 16 of the
cases and remanded these cases back to the regional appellate court for further
hearings on the merits. In a separate proceeding in October 1997, a Naples court
dismissed charges of criminal association against certain present and former
officers and directors of affiliates of the Company, but permitted tax evasion
and related charges to remain pending. In February 1998, the criminal court in
Naples determined that jurisdiction was not proper, and the case file was
transmitted to the public prosecutor in Milan. In December 2000, the Milan
prosecutor took certain procedural steps that may indicate his intention to
recommend that charges be pursued against certain of these present and former
officers and directors. In March 2002, these present and former officers and
directors received notices that an initial hearing is scheduled for June 2002 at
which time the "preliminary judge" hearing the case will evaluate whether the
Milan prosecutor's charges should be sent to a criminal judge for a full trial.
The Company, its affiliates and the officers and directors who are subject to
the proceedings believe they have complied with applicable Italian tax laws and
are vigorously contesting the pending assessments and proceedings.
---------------------
It is not possible to predict the outcome of the litigation pending against the
Company and its subsidiaries. Litigation is subject to many uncertainties.
Unfavorable verdicts awarding compensatory and punitive damages against PM Inc.
have been returned in the Engle smoking and health class action, several
individual smoking and health cases and a health care cost recovery case and are
being appealed. It is possible that there could be further adverse developments
in these cases and that additional cases could be decided unfavorably. An
unfavorable outcome or settlement of a pending tobacco-related litigation could
encourage the commencement of additional litigation. There have also been a
number of adverse legislative, regulatory, political and other developments
concerning cigarette smoking and the tobacco industry that have received
widespread media attention. These developments may negatively affect the
perception of potential triers of fact with respect to the tobacco industry,
possibly to the detriment of certain pending litigation, and may prompt the
commencement of additional similar litigation.
Management is unable to make a meaningful estimate of the amount or range of
loss that could result from an unfavorable outcome of pending tobacco-related
litigation, and the Company has not provided any amounts in the consolidated
financial statements for unfavorable outcomes, if any. The present legislative
and litigation environment is substantially uncertain, and it is possible that
the Company's business, volume, results of operations, cash flows or financial
position could be materially affected by an unfavorable outcome or settlement of
certain pending litigation or by the enactment of federal or state tobacco
legislation. The Company and each of its subsidiaries named as a defendant
believe, and each has been so advised by counsel handling the respective cases,
that it has a number of valid defenses to all litigation pending against it, as
well as valid bases for appeal of adverse verdicts against it. All such cases
are, and will continue to be, vigorously defended. However, the Company and its
subsidiaries may enter into discussions in an attempt to settle particular cases
if they believe it is in the best interests of the Company's stockholders to do
so.
Note 8. Subsequent Events:
---------------------------
In April 2002, the Company's stockholders approved changing the Company's name
from Philip Morris Companies Inc. to Altria Group, Inc. The Company's Board of
Directors retains the discretion to determine when to effect the name change.
-25-
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Consolidated Operating Results
------------------------------
For the Three Months Ended March 31,
Net Revenues
-----------------------------
(in millions)
2002 2001
------- -------
Domestic tobacco $ 5,018 $ 4,577
International tobacco 7,034 6,971
North American food 5,294 5,234
International food 1,853 1,963
Beer 1,219 1,114
Financial services 117 100
------- -------
Net revenues $20,535 $19,959
======= =======
Operating Income
----------------------------
(in millions)
2002 2001
------ ------
Domestic tobacco $1,250 $ 702
International tobacco 1,564 1,558
North American food 1,098 1,143
International food 252 239
Beer 107 124
Financial services 71 64
------ ------
Operating companies income 4,342 3,830
Amortization of intangibles (2) (253)
General corporate expenses (169) (210)
------ ------
Operating income $4,171 $3,367
====== ======
Several events occurred during the first quarters of 2002 and 2001 that affected
the comparability of statement of earnings amounts. In order to isolate the
impact of these events and discuss underlying business trends, comparisons will
be disclosed both including and excluding these events, which were as follows:
o Voluntary Retirement Programs - In the fourth quarter of 2001, voluntary
early retirement programs were offered to certain salaried employees in the
beer and food businesses. During the first quarter of 2002, approximately
800 employees accepted the benefits offered by these programs and elected
to retire or terminate employment. As a result, pre-tax charges of $135
million, $7 million and $8 million were recorded in marketing,
administration and research costs of the North American food, international
food and beer segments, respectively, for the quarter ended March 31, 2002.
o Amortization of Intangibles - On January 1, 2002, the Company adopted
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations" and SFAS No. 142, "Goodwill and Other Intangible Assets."
As a result, the Company is no longer required to amortize goodwill and
indefinite life intangible assets as a charge to earnings. The Company
estimates that net earnings would have been approximately $2.0 billion in
the first quarter of 2001 and diluted earnings per share ("EPS") would have
been $0.91 had the provisions of the new standards been applied as of
January 1, 2001.
o Businesses Held for Sale - During 2001, certain Nabisco businesses were
reclassified to businesses held for sale, including their estimated results
of operations through anticipated sale dates. These businesses have
subsequently been sold with the exception of one business that had been
held for sale since the acquisition of Nabisco. This business has been
included in 2002 reported operating results.
-26-
o Asset Impairment - During the first quarter of 2002, a pre-tax charge of
$15 million was recorded in marketing, administration and research costs
for a beer asset impairment.
o Sale of Food Factory & Integration Costs - During the first quarter of
2002, Kraft Foods North America, Inc. ("KFNA") recorded a pre-tax charge of
$27 million to consolidate production lines in North America. During the
first quarter of 2001, KFNA recorded a pre-tax charge of $29 million on the
sale of a North American food factory. These pre-tax charges were included
in marketing, administration and research costs of the North American food
segment in their respective periods.
o Litigation Related Expense - As discussed in Note 7. Contingencies, on May
7, 2001, the trial court in the Engle class action approved a stipulation
and agreed order among Philip Morris Incorporated ("PM Inc."), certain
other defendants and the plaintiffs providing that the execution or
enforcement of the punitive damages component of the judgment in that case
will remain stayed through the completion of all judicial review. As a
result of the stipulation, PM Inc. placed $500 million into a separate
interest-bearing escrow account that, regardless of the outcome of the
appeal, will be paid to the court and the court will determine how to
allocate or distribute it consistent with the Florida Rules of Civil
Procedure. As a result, a $500 million pre-tax charge was recorded in
marketing, administration and research costs of the domestic tobacco
segment for the quarter ended March 31, 2001. In July 2001, PM Inc. also
placed $1.2 billion into an interest-bearing escrow account, which will be
returned to PM Inc. should it prevail in its appeal of the case. The $1.2
billion escrow account is included in the March 31, 2002 and December 31,
2001 consolidated balance sheets as other assets. Interest income on the
$1.2 billion escrow account is paid to PM Inc. quarterly and is being
recorded as earned in the consolidated statement of earnings.
o Kraft Foods Inc. ("Kraft") IPO - On June 13, 2001, Kraft completed an
initial public offering ("IPO") of 280,000,000 shares of its Class A common
stock at a price of $31.00 per share. The Company used the IPO proceeds,
net of underwriting discount and expenses, of $8.4 billion to retire a
portion of the debt incurred to finance the acquisition of Nabisco. After
the completion of the IPO, the Company owns approximately 83.9% of the
outstanding shares of Kraft's capital stock through the Company's ownership
of 49.5% of Kraft's Class A common stock and 100% of Kraft's Class B common
stock. Kraft's Class A common stock has one vote per share while Kraft's
Class B common stock has ten votes per share. Therefore, the Company holds
97.7% of the combined voting power of Kraft's outstanding common stock.
Net revenues for the first quarter of 2002 increased $576 million (2.9%) over
2001, due primarily to higher tobacco net revenues. Excluding the unusual items
from each period and the results of operations divested since the beginning of
2001, net revenues for the first quarter of 2002 increased $596 million (3.0%)
over 2001.
Operating income for the first quarter of 2002 increased $804 million (23.9%)
over the comparable 2001 period. Excluding the unusual items from each period
and the results of operations divested since the beginning of 2001, operating
income for the first quarter of 2002 increased $213 million (5.1%) over the
first quarter of 2001, due to increases from all business segments.
Operating companies income, which is defined as operating income before general
corporate expenses and amortization of intangibles, increased $512 million
(13.4%) over the first quarter of 2001, due primarily to higher operating income
from the Company's tobacco operations and the 2001 litigation related expense.
Excluding the unusual items from each period and the results of operations
divested since the beginning of 2001, operating companies income increased $172
million (3.9%), due primarily to higher operating income from all business
segments.
Currency movements have decreased net revenues by $667 million ($376 million,
after excluding the impact of currency movements on excise taxes) and operating
companies income by $184 million from the first quarter of 2001. Declines in net
revenues and operating companies income are due primarily to the strength of the
U.S. dollar against the euro, the Argentine peso and the Japanese yen. Although
the Company cannot predict future movements in currency rates, the strength of
the U.S. dollar, if sustained during the remainder of 2002, could
-27-
continue to have an unfavorable impact on net revenues and operating companies
income comparisons with 2001.
Interest and other debt expense, net, of $293 million for the first quarter of
2002 decreased $158 million from the first quarter of 2001. This decrease was
due primarily to higher average debt outstanding in 2001, as a result of the
Nabisco acquisition. The Kraft IPO proceeds, net of underwriting discount and
expenses, of $8.4 billion were used to retire a portion of the Nabisco
acquisition debt during June 2001.
During 2002, the Company's effective tax rate decreased by 2.1 percentage points
to 35.5%. This decrease is due primarily to the adoption of SFAS No. 141 and
SFAS No. 142, under which the Company is no longer required to amortize goodwill
and indefinite life intangible assets as a charge to earnings.
Diluted and basic EPS of $1.09 and $1.10, respectively, for the first quarter of
2002, increased by 36.3% and 35.8%, respectively, over the first quarter of
2001. Net earnings of $2.4 billion for the first quarter of 2002 increased $585
million (32.9%) over the comparable period of 2001. These results include the
unusual items previously discussed. Excluding the after-tax impact of the
unusual items, net earnings increased 5.9% to $2.5 billion, diluted EPS
increased 8.6% to $1.14 and basic EPS increased 8.5% to $1.15.
Operating Results by Business Segment
-------------------------------------
Tobacco
-------
Business Environment
The tobacco industry, both in the United States and abroad, has faced, and
continues to face, a number of issues that may adversely affect the business,
volume, results of operations, cash flows and financial position of PM Inc.,
Philip Morris International and the Company.
These issues, some of which are more fully discussed below, include pending and
threatened smoking and health litigation and certain jury verdicts against PM
Inc., including a $74 billion punitive damages verdict in the Engle smoking and
health class action case discussed in Note 7 and punitive damages awards in
individual smoking and health cases discussed in Note 7; the civil lawsuit filed
by the United States federal government against various cigarette manufacturers,
including PM Inc., and others discussed in Note 7; legislation or other
governmental action seeking to ascribe to the industry responsibility and
liability for the adverse health effects associated with both smoking and
exposure to environmental tobacco smoke ("ETS"); price increases in the United
States related to the settlement of certain tobacco litigation; actual and
proposed excise tax increases in the United States and foreign markets;
diversion into the United States market of products intended for sale outside
the United States; governmental investigations; actual and proposed requirements
regarding the use and disclosure of cigarette ingredients and other proprietary
information; governmental and private bans and restrictions on smoking; actual
and proposed price controls and restrictions on imports in certain jurisdictions
outside the United States; actual and proposed restrictions affecting tobacco
manufacturing, marketing, advertising and sales outside the United States;
actual and proposed legislation in Congress, the state of New York and other
jurisdictions inside and outside the United States to require the establishment
of fire-safety standards for cigarettes; the diminishing social acceptance of
smoking and increased pressure from tobacco control advocates and unfavorable
press reports; and other tobacco legislation that may be considered by Congress,
the states and other jurisdictions inside and outside the United States.
-28-
Excise Taxes: Cigarettes are subject to substantial federal, state and local
excise taxes in the United States and to similar taxes in most foreign markets.
In general, such taxes have been increasing. The United States federal excise
tax on cigarettes is currently $0.39 per pack of 20 cigarettes. In the United
States, state and local sales and excise taxes vary considerably and, when
combined with sales taxes, local taxes and the current federal excise tax, may
currently be as high as $2.33. Proposed further tax increases in various
jurisdictions are currently under consideration or pending, and such tax
increases may result in a combined total tax portion of a pack of cigarettes of
$3.89 or more per pack in a given locality in the United States. Congress has
considered significant increases in the federal excise tax or other payments
from tobacco manufacturers, and significant increases in excise and other
cigarette-related taxes have been proposed or enacted at the state and local
levels within the United States and in many jurisdictions outside the United
States. In the European Union (the "EU"), taxes on cigarettes vary considerably
and currently may be as high as the equivalent of $5.04 per pack on the most
popular brands. In Germany, where total tax on cigarettes is currently
equivalent to $1.95 per pack on the most popular brands, the excise tax is
scheduled to increase by approximately the equivalent of $0.17 per pack by
January 2003.
In the opinion of PM Inc. and Philip Morris International, increases in excise
and similar taxes have had an adverse impact on sales of cigarettes. Any future
increases, the extent of which cannot be predicted, could result in volume
declines for the cigarette industry, including PM Inc. and Philip Morris
International, and might cause sales to shift from the premium segment to the
discount segment.
Tar and Nicotine Test Methods and Brand Descriptors: Jurisdictions around the
world have questioned the utility of standardized test methods to measure tar
and nicotine yields of cigarettes. In September 1997, the United States Federal
Trade Commission ("FTC") issued a request for public comment on its proposed
revision of its tar and nicotine test methodology and reporting procedures
established by a 1970 voluntary agreement among domestic cigarette
manufacturers. In February 1998, PM Inc. and three other domestic cigarette
manufacturers filed comments on the proposed revisions. In November 1998, the
FTC wrote to the Department of Health and Human Services ("HHS") requesting its
assistance in developing specific recommendations on the future of the FTC's
program for testing the tar, nicotine, and carbon monoxide content of
cigarettes. In November 2001, the National Cancer Institute issued a report as a
part of HHS' response to the FTC's request. The report concluded, among other
things, that because there was no meaningful difference in smoke exposure or
risk to smokers between cigarettes with different machine-measured tar and
nicotine yields, the marketing of low yield cigarettes was deceptive. Similarly,
public health officials in other countries and the EU have questioned the
relevance of the related International Organization for Standardization test
method for measuring tar, nicotine, and carbon monoxide yields. The EU
Commission has been directed to establish a committee to address, among other
things, alternative methods for measuring tar, nicotine and carbon monoxide
yields. In addition, public health authorities in the United States, the EU,
Brazil and other countries have called for the prohibition of or passed
legislation prohibiting the use of brand descriptors such as "Lights" and
"Ultra Lights." Brazil banned the use of descriptors in January 2002. In the
United States, as of February 15, 2002, there were 11 putative class actions
pending against PM Inc. and the Company in which plaintiffs allege, among
other things, that the use of the terms "Lights" and/or "Ultra Lights"
constitutes deceptive and unfair trade practices.
Food and Drug Administration ("FDA") Regulations: In August 1996, the FDA
promulgated regulations asserting jurisdiction over cigarettes as "drugs" or
"medical devices" under the provisions of the Food, Drug and Cosmetic Act
("FDCA"). The regulations, which included severe restrictions on the
distribution, marketing and advertising of cigarettes, and would have required
the industry to comply with a wide range of labeling, reporting, record keeping,
manufacturing and other requirements, were declared invalid by the United States
Supreme Court in March 2000. The Company has stated that while it continues to
oppose FDA regulation over cigarettes as "drugs" or "medical devices" under the
provisions of the FDCA, it would support new legislation that would provide for
reasonable regulation by the FDA of cigarettes as cigarettes. Currently, there
are several bills pending in Congress that, if enacted, would give the FDA
authority to regulate tobacco products; PM Inc. has expressed support for one of
the bills. The bills take a variety of approaches to the issue of the FDA's
proposed regulation of tobacco products ranging from codification of the
original FDA regulations under the "drug" and "medical device" provisions of the
FDCA to the creation of provisions that would apply uniquely to tobacco
products. All of the pending legislation could result in substantial federal
regulation of the design, performance, manufacture and marketing of cigarettes.
The ultimate outcome of the pending bills cannot be predicted.
-29-
Ingredient Disclosure Laws: Jurisdictions inside and outside the United States
have enacted or proposed legislation or regulations that would require cigarette
manufacturers to disclose the ingredients used in the manufacture of cigarettes,
and in certain cases, to provide toxicological information supporting the use of
ingredients. In the United States, the Commonwealth of Massachusetts has enacted
legislation to require cigarette manufacturers to report the flavorings and
other ingredients used in each brand-style of cigarettes sold in the
Commonwealth. Cigarette manufacturers sued to have the statute declared
unconstitutional, arguing that it could result in the public disclosure of
valuable proprietary information. In September 2000, the district court granted
the plaintiffs' motion for summary judgment and permanently enjoined the
defendants from requiring cigarette manufacturers to disclose brand-specific
information on ingredients in their products, and defendants appealed. In
October 2001, the United States Court of Appeals for the First Circuit reversed
the district court's decision, holding that the Massachusetts disclosure statute
does not constitute an impermissible taking of private property. In November
2001, the First Circuit granted the cigarette manufacturers' petition for
rehearing en banc and withdrew the prior opinion. The First Circuit, sitting en
banc, heard oral argument in January 2002. The ultimate outcome of this lawsuit
cannot be predicted. Similar legislation has been enacted or proposed in other
states and in jurisdictions outside the United States, including the EU. Under
the EU product directive described below, tobacco companies must disclose the
use of, and provide toxicological information about, all ingredients by October
2002. Philip Morris International has voluntarily disclosed the ingredients in
its brands in a number of EU member states and in other countries. Other
jurisdictions have also enacted or proposed legislation that would require the
submission of toxicological information about ingredients and would permit
governments to prohibit their use.
Health Effects of Smoking and Exposure to ETS: Reports with respect to the
health risks of cigarette smoking have been publicized for many years, and the
sale, promotion, and use of cigarettes continue to be subject to increasing
governmental regulation. Since 1964, the Surgeon General of the United States
and the Secretary of Health and Human Services have released a number of reports
linking cigarette smoking with a broad range of health hazards, including
various types of cancer, coronary heart disease and chronic lung disease, and
recommended various governmental measures to reduce the incidence of smoking.
The 1988, 1990, 1992 and 1994 reports focus upon the addictive nature of
cigarettes, the effects of smoking cessation, the decrease in smoking in the
United States, the economic and regulatory aspects of smoking in the Western
Hemisphere, and cigarette smoking by adolescents, particularly the addictive
nature of cigarette smoking during adolescence.
Studies with respect to the health risks of ETS to nonsmokers (including lung
cancer, respiratory and coronary illnesses, and other conditions) have also
received significant publicity. In 1986, the Surgeon General of the United
States and the National Academy of Sciences reported that nonsmokers were at
increased risk of lung cancer and respiratory illness due to ETS. Since then, a
number of government agencies around the world have concluded that ETS causes
disease--including lung cancer and heart disease--in nonsmokers.
It is the policy of each of PM Inc. and Philip Morris International to support a
single, consistent public health message on the role played by cigarette smoking
in the development of diseases in smokers, and on smoking and addiction. It is
also their policy in relation to these issues and the health effects of exposure
to ETS to defer to the judgment of public health authorities as to the text of
health warning messages that will best serve the public interest.
In 1999, PM Inc. and Philip Morris International established web sites that
include, among other things, views of public health authorities on smoking,
disease causation in smokers, addiction and ETS. In October 2000, the sites were
updated to reflect PM Inc.'s and Philip Morris International's agreement with
the overwhelming medical and scientific consensus that cigarette smoking is
addictive, and causes lung cancer, heart disease, emphysema and other serious
diseases in smokers. The web sites advise smokers, and those considering
smoking, to rely on the messages of public health authorities in making all
smoking-related decisions.
-30-
The sites also state that public health officials have concluded that ETS causes
or increases the risk of diseases--including lung cancer and heart disease--in
non-smoking adults, as well as conditions in children such as asthma,
respiratory infections, cough wheeze, otitis media (middle ear infection) and
Sudden Infant Death Syndrome. In addition, public health officials have
concluded that secondhand smoke can exacerbate adult asthma and cause eye,
throat and nasal irritation. In addition, PM Inc. and Philip Morris
International believe that particular care should be exercised where children
are concerned, and that smokers who have children--particularly young
ones--should avoid smoking around them.
The World Health Organization's Framework Convention for Tobacco Control: The
World Health Organization and its member states are negotiating a proposed
Framework Convention for Tobacco Control. The proposed treaty would require
signatory nations to enact legislation that would require, among other things,
specific actions to prevent youth smoking; restrict or prohibit tobacco product
marketing; inform the public about the health consequences of smoking and the
benefits of quitting; regulate the content of tobacco products; impose new
package warning requirements including the use of pictorial or graphic images;
eliminate cigarette smuggling and counterfeit cigarettes; restrict smoking in
public places; increase and harmonize cigarette excise taxes; abolish duty-free
tobacco sales; and permit and encourage litigation against tobacco product
manufacturers. PM Inc. and Philip Morris International have stated that they
would support a treaty that member states could consider for ratification, based
on the following four principles: (1) smoking-related decisions should be made
on the basis of a consistent public health message; (2) effective measures
should be taken to prevent minors from smoking; (3) the right of adults to
choose to smoke should be preserved; and (4) all manufacturers of tobacco
products should compete on a level playing field. The outcome of the treaty
negotiations cannot be predicted.
Other Legislative Initiatives: In recent years, various members of the United
States Congress have introduced legislation, some of which has been the subject
of hearings or floor debate, that would subject cigarettes to various
regulations under the HHS or regulation under the Consumer Products Safety Act,
establish educational campaigns relating to tobacco consumption or tobacco
control programs, or provide additional funding for governmental tobacco control
activities, further restrict the advertising of cigarettes, require additional
warnings, including graphic warnings, on packages and in advertising, eliminate
or reduce the tax deductibility of tobacco advertising, provide that the
Federal Cigarette Labeling and Advertising Act and the Smoking Education Act
not be used as a defense against liability under state statutory or common law,
and allow state and local governments to restrict the sale and distribution of
cigarettes. Legislative initiatives affecting the regulation of the tobacco
industry have also been considered in a number of jurisdictions outside the
United States. In 2001, the EU issued a directive on tobacco product
regulation that, among other things, reduces maximum permitted levels of tar,
nicotine and carbon monoxide yields to 10, 1 and 10 milligrams, respectively,
requires manufacturers to disclose ingredients and toxicological data on
ingredients, requires health warnings on the front of a pack that cover at
least 30% of the front panel and 14 rotational warnings that cover no less
than 40% of the back panel, requires the health warnings to be surrounded by a
black border, requires the printing of tar, nicotine and carbon monoxide numbers
on the side panel of the pack at a minimum size of 10% of the side panel, and
as described above, prohibits the use of texts, names, trademarks and figurative
or other signs suggesting that a particular tobacco product is less harmful than
others. The EU member states are in the process of drafting and adopting
legislation that will implement the provisions of the directive. The European
Commission is also considering a new directive that would further restrict
tobacco marketing and advertising in the EU. Tobacco control legislation
addressing the manufacture, marketing and sale of tobacco products has been
proposed in numerous other jurisdictions.
In August 2000, New York State enacted legislation that requires the State's
Office of Fire Prevention and Control to promulgate by January 1, 2003,
fire-safety standards for cigarettes sold in New York. The legislation requires
that cigarettes sold in New York stop burning within a time period to be
specified by the standards or meet other performance standards set by the Office
of Fire Prevention and Control. All cigarettes sold in New York will be required
to meet the established standards within 180 days after the standards are
promulgated. It is not possible to predict the impact of this law on PM Inc.
until the standards are published. Similar legislation is being considered in
other states and localities and at the federal level, as well as in
jurisdictions outside the United States.
It is not possible to predict what, if any, additional foreign or domestic
governmental legislation or regulations will be adopted relating to the
manufacturing, advertising, sale or use of cigarettes, or to the tobacco
industry generally. However, if any or all of the foregoing were to be
implemented, the business, volume, results of operations, cash flows and
financial position of PM Inc., Philip Morris International and the Company could
be materially adversely affected.
-31-
Governmental Investigations: From time to time, the Company is subject to
governmental investigations on a range of matters. During 2001, the competition
authorities in Italy and Turkey initiated separate investigations into business
activities among participants in the cigarette markets of those countries. The
order initiating the Italian investigation named the Company and certain of its
affiliates as well as all other parties purportedly engaged in the sale of
cigarettes in Italy, including the Italian state tobacco monopoly. The Turkish
investigation is directed at one of the Company's Turkish affiliates and another
cigarette manufacturer. Also in 2001, authorities in Australia initiated an
investigation into the use of descriptors, alleging that their use was false and
misleading. The investigation is directed at one of the Company's Australian
affiliates and other cigarette manufacturers. Similarly, in 2002, the Italian
authorities, at the request of a consumer group, initiated an investigation into
the use of descriptors for Marlboro Lights. The investigation is directed at the
Company's German and Dutch affiliates, which manufacture product for sale in
Italy. While it is not possible to predict the outcome of these governmental
investigations, the Company and its affiliates believe they have meritorious
responses to the matters being investigated. They are cooperating with the
investigations and are prepared to vigorously contest any findings of unlawful
conduct that may result from the investigations.
Tobacco-Related Litigation: There is substantial litigation pending related to
tobacco products in the United States and certain foreign jurisdictions,
including the Engle class action case in Florida, in which PM Inc. is a
defendant, and a civil health care cost recovery action filed by the United
States Department of Justice in September 1999 against domestic tobacco
manufacturers and others, including PM Inc. and the Company. (See Note 7 for a
discussion of such litigation.)
State Settlement Agreements: As discussed in Note 7, during 1997 and 1998, PM
Inc. and other major domestic tobacco product manufacturers entered into
agreements with states and various United States jurisdictions settling
asserted and unasserted health care cost recovery and other claims. These
settlements provide for substantial annual payments. They also place numerous
restrictions on the tobacco industry's conduct of its business operations,
including restrictions on the advertising and marketing of cigarettes. Among
these are restrictions or prohibitions on the following: targeting youth; use
of cartoon characters; use of brand name sponsorships and brand name non-tobacco
products; outdoor and transit brand advertising; payments for product placement;
and free sampling. In addition, the settlement agreements require companies to
affirm corporate principles to reduce underage use of cigarettes; impose
requirements regarding lobbying activities; mandate public disclosure of
certain industry documents; limit the industry's ability to challenge certain
tobacco control and underage use laws; and provide for the dissolution of
certain tobacco-related organizations and place restrictions on the
establishment of any replacement organizations.
-32-
Operating Results
For the Three Months Ended March 31,
--------------------------------------------------------------
Operating
Net Revenues Companies Income
------------------------- ------------------------
(in millions)
2002 2001 2002 2001
------- ------- ------ ------
Domestic tobacco $ 5,018 $ 4,577 $1,250 $ 702
International tobacco 7,034 6,971 1,564 1,558
------- ------- ------ ------
Total tobacco $12,052 $11,548 $2,814 $2,260
======= ======= ====== ======
Domestic tobacco. During the first quarter of 2002, PM Inc.'s net revenues,
which include excise taxes billed to customers, increased $441 million (9.6%)
over the comparable 2001 period, due primarily to higher pricing ($354 million,
including $120 million related to the January 1, 2002 federal excise tax
increase) and higher volume ($82 million).
Operating companies income for the first quarter of 2002 increased $548 million
(78.1%) over the comparable 2001 period, due primarily to the 2001 litigation
related expense ($500 million), price increases, net of cost increases ($202
million) and higher volume ($64 million), partially offset by higher marketing,
administration and research costs ($216 million, primarily marketing). Excluding
the impact of the 2001 litigation related expense, operating companies income
increased 4.0%.
As reported by Management Science Associates, shipment volume for the domestic
tobacco industry during the first quarter of 2002 increased to 101.3 billion
units, a 2.9% increase over the first quarter of 2001. PM Inc.'s shipment
volume for the first quarter of 2002 was 52.3 billion units, an increase
of 1.3% over the comparable 2001 period. Both the industry and PM Inc.'s
shipment volumes for the quarter were positively affected by wholesalers'
decisions to rebuild inventory levels after the January 1, 2002 increase
in the federal excise tax rate.
It should be noted that Management Science Associates' current measurements
of the domestic cigarette industry's total shipments may not include all
shipments of some manufacturers that use nontraditional channels that
Management Science Associates is presently unable to monitor effectively.
PM Inc. continues to estimate that industry volume declined at an annual
rate of 1.0% to 2.0%.
For the first quarter of 2002, PM Inc.'s market share was 51.6%, a decrease of
0.8 share points from the comparable period of 2001, due primarily to the
year-over-year timing of promotional shipments by PM Inc.
-33-
and its competitors. Marlboro shipment volume increased 1.4 billion units (3.7%)
over the first quarter of 2001 to 40.7 billion units for a 40.2% share of the
total industry, an increase of 0.3 share points over the comparable period of
2001.
Based on shipments, the premium segment accounted for approximately 74.5% of the
domestic cigarette industry volume in the first quarter of 2002, a decrease of
0.1 share points from the comparable period of 2001. In the premium segment, PM
Inc.'s volume increased 2.2% during the first quarter of 2002, compared with a
2.6% increase for the industry, resulting in a premium segment share of 62.7%, a
decrease of 0.2 share points from the first quarter of 2001 related primarily to
the year-over-year timing of promotional shipments of PM Inc. and its
competitors.
In the discount segment, PM Inc.'s shipments decreased 5.9% to 5.0 billion units
in the first quarter of 2002, compared with an industry increase of 3.7%,
resulting in a discount segment share of 19.5%, a decrease of 1.9 share points
from the comparable period of 2001. Basic shipment volume for the first quarter
of 2002 was down 1.1% to 4.7 billion units, for an 18.3% share of the discount
segment, down 0.9 share points compared to the first quarter of 2001, due
primarily to increased competitive promotional activity.
According to consumer purchase data from Information Resources Inc./Capstone, PM
Inc.'s share of cigarettes sold at retail decreased 0.2 share points to 50.7%
for the first quarter of 2002. The first quarter of 2002 retail share for
Marlboro increased 0.5 share points to 38.5% and PM Inc.'s retail share of the
premium segment grew 0.8 share points to 62.2%. Retail share for Basic, PM
Inc.'s major discount brand, was flat at 5.1%.
In March 2002, PM Inc. announced a price increase of $6.00 per thousand
cigarettes on its domestic premium and discount brands. This price increase is
effective April 1, 2002. In October 2001, PM Inc. announced a price increase of
$2.50 per thousand cigarettes on its domestic premium and discount brands. This
followed a price increase of $7.00 per thousand in April 2001. Each $1.00 per
thousand increase by PM Inc. equates to a $0.02 increase in the price to
wholesalers of each pack of twenty cigarettes.
PM Inc. cannot predict future changes or rates of change in domestic tobacco
industry volume, the relative sizes of the premium and discount segments or in
PM Inc.'s shipments, shipment market share or retail market share; however, it
believes that PM Inc.'s shipments may be materially adversely affected by price
increases including those related to tobacco litigation settlements and by
increased excise taxes or other tobacco legislation discussed under the caption
"Tobacco--Business Environment."
International tobacco. During the first quarter of 2002, international tobacco
net revenues, which include excise taxes billed to customers, increased $63
million (0.9%) over the first quarter of 2001. Excluding excise taxes, net
revenues increased $74 million (2.0%), due primarily to higher volume/mix ($190
million) and price increases ($90 million), partially offset by unfavorable
currency movements ($246 million).
Operating companies income for the first quarter of 2002 increased $6 million
(0.4%) over the comparable 2001 period, due primarily to price increases and
higher volume/mix ($79 million), partially offset by unfavorable currency
movements ($178 million).
PMI's volume for the first quarter of 2002 of 184.0 billion units increased 4.3
billion units (2.4%) over the first quarter of 2001 due primarily to volume
increases in Eastern Europe, Asia and the Middle East, partially offset by the
timing of shipments and distortions in trade purchasing patterns in the Czech
Republic, Hungary, Spain and Thailand, and economic weakness in Egypt, Romania
and worldwide duty-free. Volume advanced in a number of important markets,
including Austria, Belgium, France, Portugal, the Netherlands, the United
Kingdom, the Middle East and Africa, Russia, the Ukraine, Indonesia, Korea,
Japan, the Philippines, Taiwan, Argentina, Brazil and Mexico. In Germany, volume
was flat and share was stable for the third consecutive quarter, indicating that
the growth of trade brands is beginning to moderate. In Poland, volume was lower
due to intense price competition. International volume for Marlboro decreased
1.2%, as lower volumes in Spain, Poland, the Czech Republic, Russia, Turkey,
Egypt and Argentina, and lower worldwide duty-free shipments
-34-
were partially offset by higher volumes in Japan, the United Kingdom, the
Ukraine, Korea and Indonesia. PMI recorded market share gains in many of its
major markets.
Food
Business Environment
Kraft, the largest branded food and beverage company headquartered in the United
States, conducts its global business through two subsidiaries. A wide variety of
snacks, beverages, cheese, grocery products and convenient meals are
manufactured and marketed in the United States, Canada and Mexico by KFNA.
Subsidiaries and affiliates of Kraft Foods International, Inc. ("KFI")
manufacture and market a wide variety of snacks, beverages, cheese, grocery
products and convenient meals in Europe, the Middle East and Africa, as well as
the Latin America and Asia Pacific regions. KFNA and KFI are subject to
fluctuating commodity costs, currency movements and competitive challenges in
various product categories and markets, including a trend toward increasing
consolidation in the retail trade and consequent inventory reductions, and
changing consumer preferences. In addition, certain competitors may have
different profit objectives and some international competitors may be less
susceptible to currency exchange rates. To confront these challenges, Kraft
continues to take steps to build the value of its brands and improve its food
business portfolio with new product and marketing initiatives.
Fluctuations in commodity costs can cause retail price volatility, intensify
price competition and influence consumer and trade buying patterns. The North
American and international food businesses are subject to fluctuating commodity
costs, including dairy, coffee bean and cocoa costs. Dairy commodity costs on
average have been higher than those incurred in the first quarter of 2001. Cocoa
bean prices have also been higher, while coffee bean prices have been lower than
in 2001.
On December 11, 2000, the Company, through Kraft, acquired all of the
outstanding shares of Nabisco. During 2001, certain Nabisco businesses were
reclassified to businesses held for sale, including their estimated results of
operations through anticipated sale dates. These businesses have subsequently
been sold with the exception of one business that had been held for sale since
the acquisition of Nabisco. This business has been included in 2002 reported
operating results. The closure of a number of Nabisco domestic and international
facilities resulted in severance and other exit costs of $379 million, which
were included in the adjustments for the allocation of the Nabisco purchase
price. The closures will result in the termination of approximately 7,500
employees and will require total cash payments of $373 million, of which
approximately $100 million has been spent through March 31, 2002. Substantially
all of the closures will be completed by the end of 2002.
The integration of Nabisco into the operations of Kraft will also result in the
closure or reconfiguration of several existing Kraft facilities. The aggregate
charges to the consolidated statement of earnings to close or reconfigure
facilities and integrate Nabisco are estimated to be in the range of $200
million to $300 million. KFNA incurred pre-tax integration costs of $27 million
during the first quarter of 2002, in addition to $53 million incurred during the
third and fourth quarter of 2001. During the first quarter of 2002,
approximately 700 employees accepted the benefits offered by a voluntary
retirement program and elected to retire or terminate employment. As a result,
Kraft recorded a pre-tax charge of $142 million related to the voluntary
retirement program. As of March 31, 2002, Kraft had recorded cumulative pre-tax
charges of $222 million related to these actions.
During the first quarter of 2002, KFI acquired a biscuit company in Australia
for an aggregate cost of $62 million. During the first quarter of 2001, KFI
purchased coffee businesses in Romania and Morocco. The operating results of the
businesses acquired were not material to the consolidated operating results of
KFI or the Company in any of the periods presented.
During the first quarter of 2002, KFNA sold several North American food
businesses, which were previously classified as businesses held for sale, for
$81 million. The operating results of the businesses divested were not
-35-
material to KFNA's or the Company's consolidated financial position or results
of operations in any of the periods presented.
Operating Results
For the Three Months Ended March 31,
-------------------------------------------------------------
Operating
Net Revenues Companies Income
------------------------ ------------------------
(in millions)
2002 2001 2002 2001
------ ------ ------ ------
North American food $5,294 $5,234 $1,098 $1,143
International food 1,853 1,963 252 239
------ ------ ------ ------
Total food $7,147 $7,197 $1,350 $1,382
====== ====== ====== ======
North American food. During the first quarter of 2002, net revenues increased
$60 million (1.1%) over the first quarter of 2001, due primarily to higher
pricing ($43 million) and higher volume/mix. Excluding the businesses divested
since the beginning of 2001 and adjusting for businesses held for sale, net
revenues increased 1.5%.
Operating companies income for the first quarter of 2002 decreased $45 million
(3.9%) from the comparable period of 2001, due primarily to a pre-tax charge for
the voluntary retirement program ($135 million) and higher dairy commodity
costs, partially offset by lower marketing, administration and research costs
($102 million, the majority of which related to lower marketing expenses and
synergy savings) and higher volume/mix. Excluding the 2002 pre-tax charge for
the voluntary retirement programs, the 2002 pre-tax charge for integration costs
($27 million) and a 2001 loss on the sale of a food factory ($29 million), as
well as the impact of businesses divested since the beginning of 2001 and
businesses held for sale, operating companies income increased 7.2%.
Volume for the first quarter of 2002 increased 5.3% over the comparable period
for 2001. Excluding the impact of businesses divested and after adjusting for
businesses held for sale (the basis of presentation for all of the following
KFNA volume comparisons), volume increased 2.5%. In Cheese, Meals and Enhancers,
volume decreased due primarily to lower food service volume reflecting weakness
in the food service industry, as well as the exit of non-branded businesses,
partially offset by higher shipments of natural cheese, process cheese loaves
and macaroni & cheese dinners, and the 2001 acquisition of It's Pasta Anytime.
Volume decreased in Biscuits, Snacks and Confectionery, driven primarily by
lower shipments of biscuits and the timing of shipments of non-chocolate
confectionery products, partially offset by higher shipments of snack nuts to
non-grocery channels. Volume gains were achieved in Beverages, Desserts and
Cereals, driven primarily by ready-to-drink beverages, coffee and desserts,
partially offset by the timing of shipments in cereals. In Oscar Mayer and
Pizza, volume increased in hot dogs, bacon, luncheon meats, lunch combinations,
soy-based meat alternatives and frozen pizza.
International food. Net revenues for the first quarter of 2002 decreased $110
million (5.6%) from the first quarter of 2001. Excluding businesses divested
since the beginning of 2001 and after adjusting for businesses held for sale,
net revenues decreased $107 million (5.5%), due primarily to unfavorable
currency movements ($129 million) and lower pricing ($26 million, due primarily
to coffee commodity-related price reductions), partially offset by the impact of
acquisitions.
Operating companies income for the first quarter of 2002 increased $13 million
(5.4%) over the first quarter of 2001. Excluding a 2002 pre-tax charge for the
voluntary retirement programs ($7 million), operating companies income increased
$20 million (8.4%), due primarily to lower marketing, administration and
research costs ($43 million), partially offset by lower margins ($16 million)
and unfavorable currency movements ($6 million).
-36-
Volume for the first quarter of 2002 increased 0.9% over the first quarter of
2001. Excluding the impact of divested businesses and after adjusting for the
impact of businesses held for sale (the basis of presentation for all of the
following KFI volume comparisons), volume increased 2.5%.
In Europe, Middle East and Africa, volume increased over the first quarter of
2001, due primarily to growth in several countries across the region. In
beverages, volume increased in both coffee and refreshment beverages. Coffee
volume grew in Germany, Sweden, Poland and the Ukraine, and benefited from
acquisitions in Romania, Morocco and Bulgaria. Refreshment beverage volume
increased, driven by higher sales to the Middle East, the Czech Republic and
Turkey. Snacks volume increased, driven by recent confectionery acquisitions in
Russia and Poland, and higher salty snacks in the Nordic area and Central and
Eastern Europe. Cheese volume decreased, due primarily to increased price
competition in Europe, partially offset by gains in the Middle East. In grocery,
volume increased, due primarily to higher spoonable dressings volume in Italy
and Spain, and higher shipments of ready-to-serve desserts and pourable
dressings in the United Kingdom. Volume for convenient meals also increased, due
primarily to lunch combinations in the United Kingdom and higher shipments of
canned meats in Italy against a weak comparison in 2001.
Volume increased in the Latin American and Asia Pacific region driven by gains
in many markets in Latin America, partially offset by declines in Argentina,
Venezuela and several Asian markets due to the impact of weak economies.
Beverages volume increased, due primarily to growth in powdered soft drinks in
most markets and coffee in China. Cheese volume decreased, due primarily to
price competition in Australia and lower sales in Japan and the Caribbean,
partially offset by higher cheese volume in the Philippines. Grocery volume was
lower, due primarily to economic weakness in Argentina and Venezuela. Snacks
volume increased, driven primarily by confectionery and biscuit growth in
Brazil, biscuit growth in Peru, and an acquisition in Australia, partially
offset by lower volume in Argentina, Venezuela and China. The Company expects
continued erosion of the economic climate in Argentina to negatively affect
results during the remainder of 2002.
Beer
----
Business Environment
The domestic beer industry is intensely competitive, with the major methods of
competition being product quality, price, distribution, marketing and
advertising. The Company's beer business, Miller Brewing Company ("Miller"), has
lost market share in recent years. Miller has instituted actions to increase the
equity of its brands and focus on premium brands with the highest growth
potential. These actions include an emphasis on advertising and promotion of its
premium brands, exiting certain licenses to brew brands for domestic
distribution, reducing inventory on hand at distributors and pursuing
opportunities in the growing flavored malt beverages category.
During the first quarter of 2002, Miller entered into agreements with Skyy
Spirits LLC, Allied Domecq Spirits and Wine USA Inc. and a subsidiary of
Brown-Forman Corp. to launch a range of new flavored malt beverages. The
agreement with Skyy Spirits resulted in the introduction of Skyy Blue(TM), a
flavored malt beverage with a citrus flavor during the first quarter of 2002.
The agreement with Allied Domecq calls for the creation of flavored malt
beverages based on Allied Domecq's popular Stolichnaya(TM) vodka and Sauza(TM)
tequila brands while the agreement with Brown-Forman calls for the introduction
of flavored malt beverages based on its popular Jack Daniel's(TM) brand.
As previously announced, the Company is in discussion with a third party
regarding a potential transaction involving Miller. These discussions are
continuing and there is no certainty that they will lead to an agreement.
Operating Results
Net revenues for the first quarter of 2002 increased $105 million (9.4%) over
the first quarter of 2001, due primarily to higher pricing ($41 million), higher
volume ($23 million) and increased contract brewing revenues. Operating
companies income for the first quarter of 2002 decreased $17 million (13.7%)
from the first quarter of 2001. Excluding pre-tax charges for an asset
impairment and the voluntary retirement program, operating companies income
increased $6 million (4.8%) to $130 million, due primarily to higher pricing
($21 million), higher volume ($7 million) and increased contract brewing,
partially offset by higher marketing, administration and research costs ($30
million).
-37-
Domestic shipment volume of 9.5 million barrels for the first quarter of 2002
increased 1.6% over the first quarter of 2001. The majority of Miller's increase
in domestic shipments was due to higher shipments for core brands and the 2002
introduction of Skyy Blue(TM), partially offset by lower shipments of
lower-priced, non-core brands. Total wholesalers' sales to retailers decreased
2.6% from the comparable 2001 period, reflecting lower retail sales of Miller
Lite, Miller Genuine Draft, Icehouse, Milwaukee's Best, Red Dog and Meister
Brau.
Financial Services
------------------
Philip Morris Capital Corporation's ("PMCC") net revenues and operating
companies income for the first quarter of 2002 increased $17 million (17.0%) and
$7 million (10.9%), respectively, over the first quarter of 2001. These
increases were due primarily to growth in leasing activities and continued gains
derived from PMCC's asset portfolio. Additionally, operating companies income
benefited from lower interest rates.
Financial Review
----------------
Net Cash Provided by Operating Activities
-----------------------------------------
During the first quarter of 2002, net cash provided by operating activities was
$1.1 billion compared with $557 million during the comparable 2001 period. The
increase is due primarily to higher net earnings and a lower use of cash to
maintain working capital.
Net Cash Used in Investing Activities
-------------------------------------
During the first quarter of 2002, net cash used in investing activities was $290
million, compared with $634 million during the first quarter of 2001. The
decrease reflects lower levels of cash used for acquisitions and $81 million of
cash provided by the 2002 divestiture of several North American food businesses.
Net Cash Used in Financing Activities
-------------------------------------
During the first quarter of 2002, net cash used in financing activities was $857
million, compared with $458 million during the first quarter of 2001. This
difference was due primarily to higher repayments of debt in 2002 and an
increase in cash used during 2002 to repurchase Philip Morris common stock and
pay dividends on Philip Morris common stock.
Debt and Liquidity
------------------
Debt - The Company's total debt (consumer products and financial services) was
$23.3 billion and $22.1 billion at March 31, 2002 and December 31, 2001,
respectively. Total consumer products debt was $21.3 billion and $20.1 billion
at March 31, 2002 and December 31, 2001, respectively. At March 31, 2002 and
December 31, 2001, the Company's ratio of consumer products debt to total equity
was 1.08 and 1.02, respectively. The ratio of total debt to total equity was
1.18 and 1.13 at March 31, 2002 and December 31, 2001, respectively. In April
2002, Kraft filed a Form S-3 shelf registration statement with the Securities
and Exchange Commission, under which Kraft may sell debt securities and/or
warrants to purchase debt securities in one or more offerings up to a total
amount of $5.0 billion. The future proceeds from the sale of the offered
securities will be used by Kraft to refinance maturing indebtedness and for
general corporate purposes.
Credit Facilities - The Company and its subsidiaries maintain credit facilities
with a number of lending institutions, amounting to approximately $16.2 billion.
Certain of these credit facilities were used to support $5.9 billion of
commercial paper borrowings at March 31, 2002, the proceeds of which were used
for general corporate purposes. The Company's credit facilities include $7.0
billion (of which $2.0 billion is for the sole use of Kraft) of 5-year revolving
credit facilities expiring in July 2006, and $7.0 billion (of which $4.0 billion
is for the sole use of Kraft) of 364-day revolving credit facilities expiring in
July 2002. The Philip Morris facilities require the maintenance of a fixed
charges coverage ratio and the Kraft facilities require the
-38-
maintenance of a minimum net worth. Philip Morris and Kraft exceeded these
covenants at March 31, 2002 and do not currently anticipate any difficulty in
continuing to exceed these covenant requirements. The foregoing revolving credit
facilities do not include any other covenants that could require an acceleration
of maturity or the posting of collateral. The majority of the Company's
remaining facilities expire within one year. The 5-year revolving credit
facilities enable the Company to reclassify short-term debt on a long-term
basis. At March 31, 2002, approximately $4.9 billion of short-term borrowings
that the Company intends to refinance were reclassified as long-term debt, as
compared with $3.5 billion at December 31, 2001. The Company expects to continue
to refinance long-term and short-term debt from time to time. The nature and
amount of the Company's long-term and short-term debt and the proportionate
amount of each can be expected to vary as a result of future business
requirements, market conditions and other factors.
Guarantees - At March 31, 2002, the Company was contingently liable for
guarantees and commitments of $1.1 billion, consisting of the following:
o $0.8 billion of guarantees of excise tax and import duties related to
international shipments of tobacco products. In these agreements, a
bank provides a guarantee of tax payments to respective governments.
PMI then issues a guarantee to the respective banks for the payment of
the taxes. These are revolving facilities that are integral to the
shipment of tobacco products in international markets, and the
underlying taxes payable are recorded on the Company's consolidated
balance sheet.
o $0.2 billion, primarily surety bonds, related to government approval of
production changes at an international tobacco facility. The surety
bonds expire in 2002.
o $0.1 billion, including commitments to purchase leaf tobacco from the
United States. PM Inc.'s current leaf commitment expires in 2003.
Although these guarantees are typically short-term in nature, they are expected
to be replaced, upon expiration, with similar guarantees of similar amounts.
Guarantees do not have, and are not expected to have, a significant impact on
the Company's liquidity.
Litigation Escrow Deposits - As discussed in Note 7. Contingencies, on May 7,
2001, the trial court in the Engle class action approved a stipulation and
agreed order among PM Inc., certain other defendants and the plaintiffs
providing that the execution or enforcement of the punitive damages component of
the judgment in that case will remain stayed through the completion of all
judicial review. As a result of the stipulation, PM Inc. placed $500 million
into a separate interest-bearing escrow account that, regardless of the outcome
of the appeal, will be paid to the court and the court will determine how to
allocate or distribute it consistent with the Florida Rules of Civil Procedure.
As a result, a $500 million pre-tax charge was recorded in marketing,
administration and research costs in the domestic tobacco segment for the
quarter ended March 31, 2001. In July 2001, PM Inc. also placed $1.2 billion
into an interest-bearing escrow account, which will be returned to PM Inc.
should it prevail in its appeal of the case. The $1.2 billion escrow account is
included in the March 31, 2002 and December 31, 2001 consolidated balance sheets
as other assets. Interest income on the $1.2 billion escrow account is paid to
PM Inc. quarterly and is being recorded as earned in the consolidated statement
of earnings.
Tobacco Litigation Settlement Payments - As discussed in Note 7. Contingencies,
PM Inc., along with other domestic tobacco companies, has entered into tobacco
litigation settlement agreements that require the domestic tobacco industry to
make substantial annual payments in the following amounts (excluding future
annual payments contemplated by the agreement with tobacco growers discussed
below), subject to adjustment for several factors, including inflation, market
share and industry volume: 2002, $11.3 billion; 2003, $10.9 billion; 2004
through 2007, $8.4 billion each year; and thereafter, $9.4 billion each year. In
addition, the domestic tobacco industry is required to pay settling plaintiffs'
attorneys' fees, subject to an annual cap of $500 million, as well as an
additional $250 million each year in 2002 and 2003. These payment obligations
are the several and not joint obligations of each settling defendant. PM Inc.'s
portion of ongoing adjusted payments and legal fees is based on its relative
share of the settling manufacturers' domestic cigarette shipments, including
roll-
-39-
your-own cigarettes, in the year preceding that in which the payment is due.
Accordingly, PM Inc. records its portions of ongoing settlement payments as part
of cost of sales as product is shipped.
As part of the MSA, the settling defendants committed to work cooperatively with
the tobacco-growing states to address concerns about the potential adverse
economic impact of the MSA on tobacco growers and quota-holders. To that end,
four of the major domestic tobacco product manufacturers, including PM Inc., and
the grower states, have established a trust fund to provide aid to tobacco
growers and quota-holders. The trust will be funded by these four manufacturers
over 12 years with payments, prior to application of various adjustments,
scheduled to total $5.15 billion. Future industry payments (in 2002 through
2008, $500 million each year; and 2009 and 2010, $295 million each year) are
subject to adjustment for several factors, including inflation, United States
cigarette volume and certain other contingent events, and, in general, are to be
allocated based on each manufacturer's relative market share. PM Inc. records
its portion of these payments as part of cost of sales as product is shipped.
During the quarters ended March 31, 2002 and 2001, PM Inc. recognized $1.5
billion in each quarter as part of cost of sales attributable to the foregoing
settlement obligations.
As discussed above under "Tobacco--Business Environment," the present
legislative and litigation environment is substantially uncertain and could
result in material adverse consequences for the business, financial condition,
cash flows or results of operations of the Company, PM Inc. and PMI. Assuming
there are no material adverse developments in the legislative and litigation
environment, the Company expects its cash flow from operations and its access to
global capital markets to provide sufficient liquidity to meet the ongoing needs
of the business.
Leveraged Leases - As part of its lease portfolio, PMCC invests in leveraged
leases. At March 31, 2002, PMCC's net finance receivable of $7.1 billion in
leveraged leases, which is included in the Company's consolidated balance sheet
as finance assets, net, is comprised of total lease payments receivable ($26.1
billion) and the residual value of assets under lease ($2.7 billion), reduced by
non-recourse third-party debt ($17.9 billion) and unearned income ($3.8
billion). PMCC has no obligation for the payment of the non-recourse third-party
debt issued to purchase the assets under lease. The payment of the debt is
collateralized only by lease payments receivable and the leased property, and is
non-recourse to all other assets of PMCC or the Company. As required by
accounting principles generally accepted in the United States of America ("U.S.
GAAP"), the non-recourse debt has been offset against the related rentals
receivable and the residual value of the property, and has been presented on a
net basis within finance assets, net, in the Company's consolidated balance
sheet at March 31, 2002.
Equity and Dividends
--------------------
The Company repurchased 21.5 million of its common stock during the first
quarter of 2002 and 2001, at a cost of $1.1 billion and $1.0 billion,
respectively. At March 31, 2002, cumulative repurchases under its previously
announced $10 billion authority totaled 91.1 million shares at an aggregate cost
of $4.4 billion.
Dividends paid in the first quarter of 2002 and 2001 were $1.25 billion and
$1.17 billion, respectively, an increase of 6.6%, reflecting a higher dividend
rate in 2002, partially offset by a lower number of shares outstanding as a
result of ongoing share repurchases. During the third quarter of 2001, the
Company's Board of Directors approved a 9.4% increase in the quarterly dividend
rate to $0.58 per share. As a result, the present annualized dividend rate is
$2.32 per share.
Market Risk
-----------
The Company operates globally, with manufacturing and sales facilities in
various locations around the world, and utilizes certain financial instruments
to manage its foreign currency, interest rate and commodity exposures, which
primarily relate to forecasted transactions and debt. Derivative financial
instruments are used by the Company, principally to reduce exposures to market
risks resulting from fluctuations in foreign exchange rates,
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commodity prices and interest rates, by creating offsetting exposures. The
Company is not a party to leveraged derivatives. For a derivative to qualify as
a hedge at inception and throughout the hedged period, the Company formally
documents the nature and relationships between the hedging instruments and
hedged items, as well as its risk-management objectives, strategies for
undertaking the various hedge transactions and method of assessing hedge
effectiveness. Additionally, for hedges of forecasted transactions, the
significant characteristics and expected terms of a forecasted transaction must
be specifically identified, and it must be probable that each forecasted
transaction will occur. Financial instruments qualifying for hedge accounting
must maintain a specified level of effectiveness between the hedging instrument
and the item being hedged, both at inception and throughout the hedged period.
The Company does not use derivative financial instruments for speculative
purposes.
Substantially all of the Company's derivative financial instruments are
effective as hedges under U.S. GAAP. Accordingly, the Company decreased
accumulated other comprehensive losses by $42 million during the first quarter
of 2002. This reflects deferred losses transferred to earnings of $92 million,
partially offset by a decrease in the fair value of derivatives during the first
quarter of 2002 of $50 million. The fair value of all derivative financial
instruments has been calculated based on active market quotes.
Foreign exchange rates. The Company uses forward foreign exchange contracts and
foreign currency options to mitigate its exposure to changes in exchange rates
from third-party and intercompany forecasted transactions. The primary
currencies to which the Company is exposed include the Japanese yen, Swiss franc
and the euro. At March 31, 2002 and December 31, 2001, the Company had option
and forward foreign exchange contracts with aggregate notional amounts of $4.6
billion and $3.7 billion, respectively, for the purchase or sale of foreign
currencies. The Company uses foreign currency swaps to mitigate its exposure to
changes in exchange rates related to foreign currency denominated debt. These
swaps typically convert fixed-rate foreign currency denominated debt to
fixed-rate debt denominated in the functional currency of the borrowing entity.
Foreign currency swap agreements are accounted for as cash flow hedges. At March
31, 2002 and December 31, 2001, the notional amounts of foreign currency swap
agreements aggregated $2.3 billion.
The Company also uses certain foreign currency denominated debt as net
investment hedges of foreign operations. During the quarter ended March 31,
2002, a gain of $1 million, net of income taxes, which represented effective
hedges of net investments, was reported as a component of accumulated other
comprehensive earnings (losses) within currency translation adjustments.
Commodities. The Company is exposed to price risk related to forecasted
purchases of certain commodities used as raw materials by the Company's
businesses. Accordingly, the Company uses commodity forward contracts, as cash
flow hedges, primarily for coffee, cocoa, milk, cheese and wheat. Commodity
futures and options are also used to hedge the price of certain commodities,
including milk, coffee, cocoa, wheat, corn, sugar and soybean oil. At March 31,
2002 and December 31, 2001, the Company had net long commodity positions of $603
million and $589 million, respectively.
Interest rates. The Company uses interest rate swaps to hedge the fair value of
an insignificant portion of its long-term debt. The differential to be paid or
received is accrued and recognized as interest expense. If an interest rate swap
agreement is terminated prior to maturity, the realized gain or loss is
recognized over the remaining life of the agreement if the hedged amount remains
outstanding, or immediately if the underlying hedged exposure does not remain
outstanding. If the underlying exposure is terminated prior to the maturity of
the interest rate swap, the unrealized gain or loss on the related interest rate
swap is recognized in earnings currently. During the quarter ended March 31,
2002, there was no ineffectiveness relating to these fair value hedges. At March
31, 2002, the Company had interest rate swap agreements which converted $102
million of fixed-rate debt to variable-rate debt, of which $29 million will
mature in 2003 and $73 million will mature in 2004.
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-----------------
Use of the above-mentioned financial instruments has not had a material impact
on the Company's financial position at March 31, 2002 and December 31, 2001, or
the Company's results of operations for the three months ended March 31, 2002 or
the year ended December 31, 2001.
-----------------
Contingencies
-------------
See Note 7 to the Condensed Consolidated Financial Statements for a discussion
of contingencies.
New Accounting Standards
------------------------
On January 1, 2002, the Company adopted SFAS No. 141, "Business Combinations"
and SFAS No. 142, "Goodwill and Other Intangible Assets." As a result, the
Company stopped recording the amortization of goodwill and indefinite life
intangible assets as a charge to earnings during the first quarter of 2002. The
Company estimates that net earnings and diluted EPS would have been
approximately $2.0 billion and $0.91, respectively, for the quarter ended March
31, 2001, had the provisions of the new standards been applied as of January 1,
2001. In addition, the Company is required to conduct an annual review of
goodwill and intangible assets for potential impairment. The Company completed
its review and did not have to record a charge to earnings for an impairment
of goodwill or other intangible assets as a result of these new standards.
Effective January 1, 2002, the Company also adopted SFAS No. 144, "Accounting
for the Impairment or Disposal of Long-Lived Assets," which replaces SFAS No.
121, "Accounting for the Impairment of Long-Lived Assets and Long-Lived Assets
to be Disposed Of." SFAS No. 144 provides updated guidance concerning the
recognition and measurement of an impairment loss for certain types of
long-lived assets, expands the scope of a discontinued operation to include a
component of an entity and eliminates the exemption to consolidation when
control over a subsidiary is likely to be temporary. The adoption of this new
standard did not have a material impact on the Company's financial position,
results of operations or cash flows.
Effective January 1, 2002, the Company adopted Emerging Issues Task Force
("EITF") Issue No. 00-14, "Accounting for Certain Sales Incentives" and EITF
Issue No. 00-25, "Vendor Income Statement Characterization of Consideration Paid
to a Reseller of the Vendor's Products." The adoption of EITF Issues No. 00-14
and No. 00-25 resulted in a reduction of revenues of approximately $2.4 billion
in the first quarter of 2001. Marketing, administration and research costs were
reduced in the first quarter of 2001 by approximately $2.6 billion. Cost of
sales increased in the first quarter of 2001 by approximately $145 million and
excise taxes on products increased by approximately $56 million. The adoption of
these EITF Issues had no impact on net earnings or basic and diluted EPS.
The adoption of EITF Issues No. 00-14 and No. 00-25 resulted in restated 2001
quarterly reported net revenues by segment as follows (in millions):
2001
--------------------------------------------------------------
First Second Third Fourth
------- ------- ------- -------
Domestic tobacco $ 4,577 $ 5,105 $ 5,144 $ 5,076
International tobacco 6,971 6,750 6,742 6,054
North American food 5,234 5,428 5,151 5,157
International food 1,963 2,045 1,867 2,389
Beer 1,114 1,350 1,235 1,092
Financial services 100 111 110 114
------- ------- ------- -------
Net revenues $19,959 $20,789 $20,249 $19,882
======= ======= ======= =======
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Excluding the impact of businesses divested and held for sale, restated 2001
quarterly net revenues by segment is as follows (in millions):
2001
--------------------------------------------------------------
First Second Third Fourth
------- ------- ------- -------
Domestic tobacco $ 4,577 $ 5,105 $ 5,144 $ 5,076
International tobacco 6,971 6,750 6,742 6,054
North American food 5,217 5,547 5,201 5,245
International food 1,960 2,050 1,869 2,381
Beer 1,114 1,350 1,235 1,092
Financial services 100 111 110 114
------- ------- ------- -------
Net revenues $19,939 $20,913 $20,301 $19,962
======= ======= ======= =======
Forward-Looking and Cautionary Statements
-----------------------------------------
The Company and its representatives may from time to time make written or oral
forward-looking statements, including statements contained in the Company's
filings with the Securities and Exchange Commission and in its reports to
stockholders, including this Quarterly Report on Form 10-Q. One can identify
these forward-looking statements by use of words such as "strategy," "expects,"
"continues," "plans," "anticipates," "believes," "will," "estimates," "intends,"
"projects," "goals," "targets" and other words of similar meaning. One can also
identify them by the fact that they do not relate strictly to historical or
current facts. In connection with the "safe harbor" provisions of the Private
Securities Litigation Reform Act of 1995, the Company is hereby identifying
important factors that could cause actual results and outcomes to differ
materially from those contained in any forward-looking statement made by or on
behalf of the Company; any such statement is qualified by reference to the
following cautionary statements.
The tobacco industry continues to be subject to health concerns relating to the
use of tobacco products and exposure to ETS; legislation, including actual and
potential excise tax increases; increasing marketing and regulatory
restrictions; governmental regulation; privately imposed smoking restrictions;
governmental and grand jury investigations; litigation, including risks
associated with adverse jury and judicial determinations, courts reaching
conclusions at variance with the Company's understanding of applicable law,
bonding requirements and the absence of adequate appellate remedies to get
timely relief from any of the foregoing; and the effects of price increases
related to concluded tobacco litigation settlements and excise tax increases on
consumption rates. The food industry continues to be subject to recalls
if products become adulterated or misbranded; liability if product
consumption causes injury; ingredient disclosure and labeling laws and
regulations; and the possibility that consumers could lose confidence in the
safety and quality of certain food products. Each of the Company's consumer
products subsidiaries is subject to intense competition, changes in consumer
preferences and local economic conditions. Their results are dependent upon
their continued ability to promote brand equity successfully; to anticipate and
respond to new consumer trends; to develop new products and markets and to
broaden brand portfolios in order to compete effectively with lower priced
products in a consolidating environment at the retail and manufacturing levels;
to improve productivity; and to respond to changing prices for their raw
materials. In addition, PMI, KFI and KFNA are subject to the effects of foreign
economies and the related shifts in consumer preferences, currency movements and
fluctuations in levels of customer inventories. Developments in any of these
areas, which are more fully described above and which descriptions are
incorporated into this section by reference, could cause the Company's
results to differ materially from results that have been or may be projected
by or on behalf of the Company. The Company cautions that the foregoing list
of important factors is not exclusive. The Company does not undertake to
update any forward-looking statement that may be made from time to time by
or on behalf of the Company.
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Part II - OTHER INFORMATION
Item 1. Legal Proceedings.
See Note 7. Contingencies, of the Notes to the Condensed
Consolidated Financial Statements included in Part I, Item 1 of this report for
a discussion of legal proceedings pending against the Company and its
subsidiaries. See also Exhibits 99.1 and 99.2 to this report.
Item 4. Submission of Matters to a Vote of Security Holders.
The Company's annual meeting of stockholders was held in Richmond,
Virginia on April 25, 2002. 1,807,100,817 shares of Common Stock, 84.2% of
outstanding shares, were represented in person or by proxy.
The fifteen directors listed below were elected to a one-year term
expiring in 2003. Geoffrey C. Bible and William H. Webb will step down from the
Company's Board of Directors in August 2002.
Number of Shares
-------------------------------------------------
For Withheld
------------- ----------
Elizabeth E. Bailey 1,790,884,115 16,216,702
Geoffrey C. Bible 1,792,259,709 14,841,108
Harold Brown 1,791,174,722 15,926,095
Louis C. Camilleri 1,792,448,335 14,652,482
Jane Evans 1,791,207,054 15,893,763
J. Dudley Fishburn 1,791,219,213 15,881,604
Robert E. R. Huntley 1,791,522,527 15,578,290
Thomas W. Jones 1,790,940,623 16,160,194
Billie Jean King 1,789,057,708 18,043,109
John D. Nichols 1,791,803,735 15,297,082
Lucio A. Noto 1,790,590,137 16,510,680
John S. Reed 1,790,893,969 16,206,848
Carlos Slim Helu 1,786,318,179 20,782,638
William H. Webb 1,791,998,190 15,102,627
Stephen M. Wolf 1,789,981,943 17,118,874
The selection of PricewaterhouseCoopers LLP as independent
accountants was approved: 1,755,750,564 shares voted in favor; 38,806,337 shares
voted against and 12,543,916 shares abstained.
The Company received stockholder approval to amend its restated
articles of incorporation to change its name from Philip Morris Companies Inc.
to Altria Group, Inc. with 1,707,959,012 shares voted in favor; 83,947,731
shares voted against and 15,194,074 shares abstained.
The three stockholder proposals were defeated:
Stockholder Proposal 1 - Inserts Disclosing Personal And Social Effects Related
To Using Our Company's Tobacco Products: 72,283,776 shares voted in favor;
1,388,777,086 shares voted against and 346,039,955 shares abstained (including
broker non-votes).
Stockholder Proposal 2 - Environmental Tobacco Smoke: 72,970,946 shares voted in
favor; 1,387,318,868 shares voted against and 346,811,003 shares abstained
(including broker non-votes).
Stockholder Proposal 3 - Global Human Rights Standards: 75,640,363 shares voted
in favor; 1,337,386,019 shares voted against and 394,074,435 shares abstained
(including broker non-votes).
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Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
3 Amended By-Laws.
12 Statement regarding computation of ratios of earnings to
fixed charges.
99.1 Certain Pending Litigation Matters and Recent Developments.
99.2 Trial Schedule for Certain Cases.
(b) Reports on Form 8-K. The Registrant filed a Current Report on Form
8-K on January 30, 2002 covering Item 5 (Other Events) and Item 7
(Financial Statements, Pro Forma Financial Information and
Exhibits) containing the Company's consolidated financial
statements as of and for the year ended December 31, 2001.
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Signature
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PHILIP MORRIS COMPANIES INC.
/s/ DINYAR S. DEVITRE
Dinyar S. Devitre, Senior Vice President and
Chief Financial Officer
May 13, 2002
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