Nick Rolli - VP, IR & Financial Communications Martin King - CFO.

Adam Spielman - Citi Judy Hong - Goldman Sachs Vivien Azer - Cowen & Co. Michael Lavery - Piper Jaffray Bonnie Herzog - Wells Fargo Chris Growe - Stifel Nicolaus Pamela Kaufman - Morgan Stanley.

Good day. And welcome to the Philip Morris International Third Quarter 2018 Earnings Conference Call. Today's call is scheduled to last about one hour, including remarks by Philip Morris International management and the question-and-answer session [Operator Instructions].

Media representatives on the call will also be invited to ask questions at the conclusion of questions from the investment community. I will now turn the call over to Mr. Nick Rolli, Vice President of Investor Relations and Financial Communications. Please go ahead, sir..

Welcome. Thank you for joining us. Earlier today, we issued a press release containing detailed information on our 2018 third quarter results. You may access the release on www.pmi.com or the PMI Investor Relations App.

A glossary of terms, including the definition for reduced-risk products, or RRPs, as well as adjustments, other calculations and reconciliations to the most directly comparable U.S. GAAP measures, are at the end of today's webcast slides, which are posted on our website.

Today's remarks contain forward-looking statements and projections of future results. I direct your attention to the Forward-Looking and Cautionary Statements disclosure in today's presentation and press release for a review of the various factors that could cause actual results to differ materially from projections or forward-looking statements.

Additionally, following the comprehensive business review that we provided at our recent Investor Day, today we will summarize our 2018 full-year outlook and third quarter results, as well as our performance in select geographies. For reference, the slides and transcripts for the Investor Day presentations are available on our website and our IR App.

It's now my pleasure to introduce Martin King, our Chief Financial Officer.

Martin?.

PMI heated tobacco unit shipment volume of 41 billion to 42 billion units, reflecting a net anticipated distributor inventory reduction of approximately 3 billion units; and PMI heated tobacco unit in-market sales volume of 44 billion to 45 billion units.

Moving to our third quarter results, total shipment volume decreased by 2.1%, due mainly to the impact of distributor inventory movements, notably related to heated tobacco units in Japan.

Excluding inventory movements, total shipment volume increased by 1.1%, driven by higher heated tobacco unit volume in the EU, Japan, Korea, the Middle East and Africa region and Russia as well as higher cigarette volume in select markets, notably Indonesia, Mexico, Saudi Arabia, Thailand and Turkey.

September year-to-date, total shipment volume declined by 1.2%, but increased by 0.3% excluding inventory movements.

Given the impact of distributor heated tobacco unit inventory movements on our third quarter 2018 results, let me take a moment to put this into perspective vis-à-vis the 3 billion unit full-year distributor inventory reduction assumption that we previously communicated.

As seen on this chart, the full-year reduction is driven by Japan and concentrated in the third quarter, with a decrease of 3.7 billion units. By comparison, there was an inventory increase in the third quarter of 2017 of 3.2 billion units, resulting in a negative total heated tobacco unit inventory variance of 6.9 billion units.

For the fourth quarter this year, we anticipate a 0.5 billion unit inventory increase. This compares to an inventory increase of 7.3 billion units in the fourth quarter of 2017, resulting in a negative total heated tobacco unit inventory variance of 6.8 billion units.

Importantly, heated tobacco unit inventories have been right-sized, and we are poised for future growth.

Third quarter net revenues increased by 3.3%, excluding currency, driven by strong pricing for our combustible tobacco portfolio, partly offset by the impact of the heated tobacco unit inventory adjustment that I just noted, as well as unfavorable combustible tobacco volume/mix.

Our currency-neutral net revenue growth in the quarter came in slightly above the approximately 2% growth expectation that we provided during Investor Day. As this difference mainly reflects timing between the third and fourth quarters, we are maintaining our full-year net revenue growth assumption of approximately 3%, excluding currency.

Given our September year-to-date growth of 6.5%, this implies a decline in the fourth quarter of approximately 5%, largely reflecting the difficult comparison with the nearly 19% growth in the fourth quarter of 2017.

Adjusted operating income increased by 7.6%, excluding currency, reflecting the price-driven growth in net revenues, the favorable margin impact of lower IQOS device sales, as well as lower manufacturing and marketing costs for combustible products, partly offset by incremental RRP investments across IQOS launch markets.

Adjusted operating income margin increased by 1.8 points, excluding currency. Our reported diluted EPS of $1.44 increased by 13.4% in the quarter, driven by favorable business performance, and also benefiting from the lower effective tax rate and lower interest expense compared to the third quarter of 2017.

Excluding currency, adjusted diluted EPS increased by 20.5%. Demonstrating our favorable business momentum, total PMI international market share, excluding China and the U.S. increased by 0.5 points in the third quarter and by 0.6 points September year-to-date.

The growth for both periods was driven by higher share for heated tobacco products, with the lower cigarette shares reflecting the impact of adult smoker out-switching to our heated tobacco brands. Indeed, our cigarette shares within the cigarette category alone were stable.

As discussed in detail by our Chief Operating Officer, Jacek Olczak, during Investor Day, our combustible tobacco portfolio continues to be supported by robust fundamentals. This is evidenced by our third quarter combustible pricing variance of approximately 8%, driven notably by the EU Region, Indonesia, the Philippines and Russia.

Furthermore, our results reflect favorable cigarette share and/or volume trends across a range of key markets. For example, the decline in cigarette industry volume in Saudi Arabia moderated considerably in the quarter, reflecting the lapping of the June 2017 excise tax implementation.

Importantly, our market share increased by 6.1 points versus the third quarter of 2017, driven by Marlboro, L&M and Chesterfield, and was up by 1.6 points sequentially. In Turkey, strong cigarette industry volume growth continued in the quarter, supported by the lower prevalence of illicit trade.

In addition, although our August quarter-to-date share declined slightly, share for Marlboro increased by 1.3 points. And in the Philippines, both Marlboro and Fortune drove total cigarette market share growth of 1.2 points in the quarter.

Marlboro's performance reflects the brand's strong equity in the market, while Fortune is benefiting from narrowed price gaps with lower-priced brands. Turning to the performance of IQOS, we are pleased with the growth in the total user base, which we believe serves as a leading indicator for market share.

Indeed, the positive sequential share performance for our heated tobacco brands continued in the quarter, reaching 1.7% of total cigarette and heated tobacco unit industry volume, excluding China and the U.S. In Japan, our largest IQOS market, we recorded stable quarterly HeatSticks share on a sequential basis.

This is encouraging, given that we expect the range of initiatives that we have outlined previously including the upcoming launch of IQOS 3 and IQOS 3 Multi to only have a meaningful impact on share beginning in 2019.

Please note that third quarter in-market sales for both cigarettes and heated tobacco units, industry-wide benefited from trade and consumer inventory movements in advance of the October 1st price increases. In Korea, in-market sales volume for HEETS in the quarter was stable on a sequential basis at 1.4 billion units.

Sequential share for HEETS declined, however, partly reflecting the impact of cigarette in-market sales volume seasonality.

The sequential quarterly share trend for HEETS also reflects the impact of misleading comments by the KFDA earlier this year regarding the quote tar generated by IQOS, as well as competitive churn associated with the increased distribution coverage of competitors' products.

As Jacek explained at Investor Day, the KFDA's comments have not really been an issue with regard to IQOS users that have already fully made the switch from cigarettes, and thus have discovered the various product attributes for themselves.

Instead, the comments have been impacting those who are new to IQOS or were otherwise planning to enter the heated tobacco category. We remain focused on properly educating current IQOS users and adult smokers interested in the heated tobacco category on the differences between tobacco heating and combustion.

We are committed to ensuring that these smokers receive accurate information to guide their choices. In addition, the upcoming global launch of IQOS 3 devices, which includes Korea, should reinforce IQOS's status as the preeminent heated tobacco brand in the market.

In the EU region, the steady sequential growth of HEETS continued in the quarter, with share reaching 1.2% and reflecting further growth in the IQOS user base. It is also worth highlighting that our quarterly share for HEETS increased in all IQOS markets in the region compared to the third quarter of 2017.

Finally, we are particularly encouraged by the strong performance of IQOS in Russia. In the third quarter, share for HEETS reached 1.1% nationally, although our focus is currently on key cities comprising approximately 20% of the total cigarette market.

Our disciplined approach to geographic and channel expansion allows us to ensure continued improvement in IQOS conversion rates and consumer experience.

To conclude, we delivered solid currency-neutral results in the third quarter, driven by strong pricing for our combustible product portfolio and benefiting at the EPS level from a lower effective income tax rate and lower interest expense.

Our 2018 business outlook remains intact, supported by robust fundamentals for combustible products and increasingly broad-based IQOS growth across geographies.

Consequently, we are reaffirming our 2018 reported diluted EPS guidance, which continues to represent a growth rate of approximately 8% to 9%, excluding currency, compared to adjusted diluted EPS of $4.72 in 2017. Thank you. I am now happy to answer your questions..

Thank you. [Operator Instructions] Our first question comes from the line of Adam Spielman of Citi..

Thank you very much. So, I have two questions. The simpler question is on FFA [ph]. This clearly did much better than I was expecting and I suspect it's partly in Philippines, but a large chunk is Indonesia.

I was wondering whether you think that good performance there is likely to continue into 2019 or whether you think it is a sort of short term lift if you like. That's my first question. I will come on to the second later..

Okay. Yes, the Philippines and Indonesia are both performing well. Philippines, Marlboro has been on a multi-year share growth trajectory that continues as the pricing in the market at the low-end has moved up and it is the preeminent brand in the market so it continues to grow its share which is helping lift the overall share.

More recently the positive has been also that Fortune has started to benefit from the price gaps as well and so its growth has been very good up from a share point of view and obviously with the price gaps closing and the trading to Marlboro is from a share perspective in Fortune that's helped the profitability in the market.

As far as we can see going forward, I think the Philippines will continue to be a good story with the single tier tax there and the ability of our brands to continue to do very well. For Indonesia, the volume has been better than more recent times as the market has stabilized. The total market size has stabilized.

We're looking probably for the full year for it to be very slightly down but it's very close now to being flat versus before in previous couple years it's been down 1%, 2% to 3%. So that's a positive trend.

We're doing very well in Indonesia with a couple of brands, we introduced in the last 12 to 18 months and that is the Dji Sam Soe Magnum Mild and then also with the Marlboro Filter Black Kretek they both gained share very nicely and they continue to do so.

The challenge for us in Indonesia is with down-trading as A Mild has moved through the 20,000 per pack, rupiah per pack price point it has lost some share. Over time of course other brands will move to that price point and it should recover, but that's still going to take a bit longer to do.

So, I think Indonesia is on a good stable platform, shares stable to slightly up and it's been that way now for a good period of time. Obviously, we would like to see the share grow. We'd like to see A Mild start to do better and I think that's just going to take some time as the pricing moves through the market.

As you know in Indonesia you have lots of frequent price increases. So, yes very good news in that region..

Okay. So perhaps, a more significant question is about your guidance. Given your substantial beats not only of the sales growth, but also on EBIT I suppose I simply didn't understand how your EPS can be as low as you say.

In other words, I estimate that you are sort of implying of EPS is that it has to be down something like 11% to 15% for 4Q to make your guidance. On particularly the shipping effects in fact and I want to share the shipping effects on IQOS are fundamentally almost the same in 3Q and 4Q.

I didn't understand given how good EPS was this quarter why we should think it's going to be down double-digit next quarter?.

Okay. So let's start at the revenue line and the story there is really the comparison with a very high increasing Q4 of last year versus what's happening in Q4 this year.

Actually sequentially from Q3 to Q4 if you do the math on the revenues to be down about 5% for the quarter versus last year and to be up 3% for the full year you end up with revenues approximately the same in the fourth quarter is what we're seeing in the third quarter. So sequentially it's not really the issue.

On the other hand when you compare Q4 to last year, you have several things going on most of which relate to Japan and that is you have the 7 billion almost impact on the inventory comparison year-over-year since we were building last year inventory whereas this year the inventory is relatively flat.

So that right there is a pretty significant comparison issue. We also paid back in Q4 in Japan the volume related to this recent pricing that occurred since retail and consumers loaded in the end of Q3 and so you will pay that back in Q4 that's probably around 1.5 billion sticks between conventional and heated tobacco units that's just approximate.

And then the other piece is the difference in device sales from last year to this year. Last year, we were bringing on the additional supplier and adding more volume into the market as we were getting ready to lift the cap in the end of January of this year.

Whereas this year, we're launching 3, and 3 Multi however we have sufficient inventory of 2.4 plus. So, the comparison year-over-year on devices is also another piece of that. If you talk about the rest of the business, the revenues are actually up about the same in Q4 of this year or will be we anticipate Q4 this year versus Q4 last year around 5%.

But the Japan effects are very significant when you add those impacts up. The other piece when you take it down to the EPS level is the cost pattern we're still on track with the cost.

The spending increases that we mentioned before around $600 million incremental on RRP, but a bigger piece of it comes in the fourth quarter, so we are stepping up the spending timing in the fourth quarter overall it's still more of less the same.

And that's partly behind the 3 and 3 Multi launch around the world as well as other activities around RRP where we are rolling out some of the efficiencies and improvements that we've been preparing all year. So it's all baked in to the guidance, the 8% to 9% takes into account these issues as well as the pricing and everything else..

So, to summarize and to make sure I got to understand sequentially. So, thinking about it because I think easy because you've got a 7 billion G load in effect in both quarters 3Q and 4Q, you expect roughly.

Sequentially, when all is said and done sales will be roughly the same but EPS is going to go down sharply because you are investing more behind the version 3 device. I mean to me that sounds like the key difference between Q3 and Q4 when you come to the cost line if sales is going to be the same roughly..

Yes. I mean revenue is more of less the same. I mean obviously there are other impacts in there like as I mentioned the timing on the timing on the pricing for Japan has an impact or other movement around the world between Q3, Q4 et cetera. But overall, I think it's all baked in..

Okay. Thank you..

Our next question comes from the line of Judy Hong of Goldman Sachs..

Martin, just the first question is on the IQOS next gen 3 and the multi launch in the fourth quarter. So, it sounds like in Korea they are announcing a launch next week. I'm just wondering from a timing perspective if you can just remind us sort of the phasing of the launch by just the market is Japan going first and then Japan.

Sorry, is Korea going first and then Japan or kind of thinking about the timing around that is my first question..

Yes, it will become more clear in the next short period of time. But essentially Japan, Korea are on the same timeline and we're getting ready for having a really successful introduction because we think these devices are a step forward and will help cement our already good position as the premium RRP brand in both those markets..

Got it. And then in Japan for the inventory loading ahead of the price increases I think you called out 1.5 billion in total in the third quarter.

I'm just wondering if you can break that a little bit or just combustible versus the HeatSticks? And then I know it's early in the days, but kind of what are you seeing in terms of the consumer acceptance to those pricing and the volume elasticity around that?.

Well okay. First of all the prices have only been there very very short period of time. So it's too early to really see any patterns in how consumers are reacting. In Japan, just let me plan out to make sure people understand what I'm referring to is retail stores and consumers buying ahead of the price increase which occurred in the third quarter.

It doesn't have to do anything with our own shipments to distributors et cetera. This is consumers, however in the fourth quarter obviously consumers and retailers would reverse that and so you could anticipate lower sales. As far as the exact amount, it's difficult to estimate a precise amount.

I was giving a round number on the revenue just to give a sense for it. We think heated tobacco units in Japan for the quarter, we were flat to maybe slightly up if you exclude the inventory or the impact of the pricing.

But that's just an estimate, right? So you figured it was at 7.5 billion in there, we figured it's around maybe 7.8 billion, 7.9 billion somewhere in that range and whereas cigarettes were around 7.6 billion or so. And that's just a rough estimate Judy.

You don't really know until you see how it flows out into the consumers and how the prices are accepted and it's too early to really see that yet..

Got it, okay. And then, this is my last question just in terms of Russia. So, nice to see continued price improvement in that market.

Just give us an update in terms of competitively what you're seeing in the marketplace and then sort of the sustainability of this more stable pricing environment in your build?.

Yes. I mean there is really no new news. The pricing continues to roll through pretty much as we've been talking throughout the year. We still see some down trading from the mid-priced brand like our Bond Street to lower price. We actually see our premium Parliament et cetera holding up pretty well.

But the pricing environment is more of less what we communicated in previous quarters which means it's being pushed through. There are certain times when we see higher levels of inventory being used in order to delay the timing between announcing pricing versus when consumers actually get it. But there is really no new news on that front..

Got it, okay. Thank you..

Our next question comes from the line of Vivien Azer of Cowen & Co..

So, my first question is on the EU and the margin improvement continued to be quite strong on the heels of a good second quarter [indiscernible] as well.

Anything to call out there in terms of geographic mix, obviously the pricing has been a bit better but anything else to call out?.

Right, I think Germany has been a bring spot with the performance of the brand. Marlboro and we've seen some good results there. I mean overall across the EU the bigger story is about the success on the heated tobacco units and IQOS.

We're seeing very nice momentum across all the markets with growth and you see it in the number of users which is really the key metric to keep looking at because that for us is what tells us that we're converting smokers and locking in a better future as far as having higher margins and higher benefits for shareholders from the consumers.

So, it is on a very good trajectory. But most of it, the most exciting part is that the success of the heated tobacco unit..

Terrific! That's certainly encouraging to hear. My next question is on Saudi Arabia. Clearly we understand the volume pressure from the excise taxes and your market share has clearly looked quite good. But there have been press reports that Saudi is looking to implement plain packaging.

Any update from that and how are you thinking about the potential impact to your business? Thanks..

No. We don't have any new news on that. I mean obviously we're happy to be lapping the big implementation of excise and that helps us as far as our comps moving forward, but we don't really have any other additional news in Saudi..

Fair enough. My last question please. Have you had any new engagement with the FDA on your IQOS application? Thanks..

We're in the same place we were at Investor Day, which is we are hopeful that we would hear something on the PMTA by the end of this year. But it's really in the hands of the FDA and we don't have anything more to add, I think we covered it pretty well at Investor Day and there is really nothing new on that front either..

Excellent! Thanks very much..

Our next question comes from the line of Michael Lavery of Piper Jaffray..

Just looking at the heated tobacco and the revenues you report for that by segment along with the HeatSticks volumes. I know you don't give the number of devices, which is a part of that.

But just crudely calculating the revenue per stick, it looks like Russia or Eastern Europe has gone up considerably from last year and Middle East Africa duty free and East Asia are down a bit.

Can you just help us understand is device mix a big part of that have you had any lower pricing that is driven it? Have you seen the discount on the IQOS device in Japan that you made sort of basically permanent be a driver of that? How do we think about just some of the portfolio mix within the IQOS platform?.

Well, yes. I mean Russia is doing very well and continues to grow very nicely at a stepped up pace from what it was some time ago. Duty free is continuing to show good growth this year.

I think you see the stories for Japan and for Korea in the graphs that we showed during the presentation, the volume is stable to slightly up in Japan if you strip out the effects of the pricing. In Korea it's stable.

The number of devices sold is pretty much in line, it's lower than it was before partly with regard to Japan of course it was that we had sold it to our distributor there and we've now been working on for those inventories as opposed to seeing new additional shipments which would impact revenue.

They've been reduced to bring that inventory back into line just as we communicated we would do and going forward you're going to see the 3 and 3 Multi coming in. Bur as it's a new product and we're ramping up production, the year-over-year comparison on devices will be negative for Japan compared to Q4 last year.

But other than that I think you really get the effects of the growth that was offset by the inventory changes that we communicated for Japan..

Well, and so I realized you have all the data yourself. So you may not have it back of the envelope, the way like this you would even look at it.

But for example in Eastern Europe the price per stick, the total IQOS revenues per HeatStick were up over 25% would that suggest a greater skew to devices and if so is that a potentially good leading indicator of increasing adoption with the stick sales to follow?.

I'm not sure I follow that. Obviously, when we sold devices it's flattering the revenue and until you have a consumer with the device, you don't get the stick sale, so there is a lag.

So, as you are opening a new market you might see the revenues from the devices be a heavier proportion until you've converted smokers to it and then they start to purchase and repurchase the HeatSticks.

So there is often a period of time where, when we look at a metric like HeatSticks per device sold in a newer market that would be relatively low and then it would steam as you convert more users.

So, some of these metrics can be affected by either very rapid growth like what's happening in Russia where we are converting a lot of people and selling devices. But then the HeatSticks lag there.

So it depends on where the market is as far as whether it's stable from the point of view or whether it's adding users at a very fast pace versus a more mature state where it's adding users but maybe not as quickly that might have something to do with some of your back of the envelope calculations but I am not sure I can really help you with that..

No, it's very helpful. That's exactly the way it looks, so that's great color, just one more on HeatSticks and pricing.

Can you just give us some of your thinking as the business now is getting to be two or more years old in many markets as you are taking regular price increases on cigarettes? Are you applying those to HeatSticks as well, I know typically you have some modest discounts where others have small price grant relative to say Marlboro for example.

But when you are taking cigarette price increases do HeatSticks tend to benefit from that as well?.

Well, the best example is what we are doing in Japan right now. So, we increased the price on Marlboro HeatSticks from ¥470 to ¥500 whereas we increased – from ¥460 to ¥500 on the Marlboro heated tobacco units whereas the Marlboro cigarettes went from ¥470 to ¥510. So the increase was actually the same but we kept a small differential in the price.

So, I think it's going to depend on each market. Obviously we want our heated tobacco units to be premium products and we don't want to have too big a gap, the other piece that influence it is how big is the tax benefit in each country and making sure at least pass some of that tax benefit toward the consumers.

So in general, I think over the long haul you will see the pricing from heated tobacco units come but it will depend on the situation in the market with regard to taxes and with regard to where we are as far as establishing the category and establishing the brand.

Japan is the most mature of all and you see the pricing that occurred there recently which kept gaps but moved with cigarettes..

That's very helpful. Thank you very much..

Our next question comes from the line of Bonnie Herzog of Wells Fargo..

I have a question on your total operating margin. It expanded nicely despite higher spending and was probably driven by your lower IQOS device sales in the quarter.

So, I am wondering as you ramp your new device sales in Q4 how much of a negative impact will this have on your margins? And then actually maybe going back to an earlier question on your guidance can you just explain why your EPS growth in Q4 won't be higher? And then as we think about next year and you continue to build or ramp your new device sales.

Just trying to get a sense of the impact this might have going forward on your margin?.

Yes, so I think you are right to look at device sales is having an impact on the margin and we actually called it out in previous quarters when we were shipping ahead of demand and had higher device sales as a percentage of net revenues for RRP.

I mean we've given the sort of rule of thumb it's around 25%, but like in the first quarter it was quite high. It was like 36% and that dragged our margins a lot. Now you are seeing in Q3 it was lower, because we were drawing down inventories above 14%. So you see the benefit now swinging the other way when you compare.

So, over time I think it works out to be around 25% of RRP's. But it's going to be variable depending on the timing of either inventory adjustments or of course launching additional devices. Now 3 and 3 Multi coming in, now in the fourth quarter, we're obviously ramping up supply as well. So, it's not as though we can ship as many as we would like.

We have to live within what can be manufactured. So, I don't know that you will see such a huge surge of it because of the fact that you have to get it distributed. You have to get it in consumers' hands. You have to explain it. Plus you have to be able to manufacture it.

So, going forward I think the 25% waiting it probably the best estimate, but it's going to vary..

Okay. No, that's helpful. And then on the same line what do you think about next year and we should expect these the new device sales to continue to sort of build especially in Q1 and probably Q2 and then depending on the demand throughout the year.

So, maybe it's not so front end loaded, I'm just trying to get a sense of the phasing also as we look forward into 2019..

Yes, I am not sure I can help you with much more than what I have just said.

Keep in mind though we will also continue to sell the 2.4 plus device in the market and we will use both as important ways to both reach more price sensitive consumers or newer consumers will may not be willing to invest as much in the device with 2.4 plus, but use the 3 and 3 multi as a more premium offering and giving consumers that consecutive experience option with the 3 Multi that's very important.

I think it will help us a lot in Japan and Korea especially, but also in other markets.

So they both have a role to play going forward and part of us is going to depend on how fast we convert consumers because obviously as we ramp up our efforts and continue to get better at reaching consumers and converting consumers you need the devices to go with that..

And that is actually is a little bit of on the lines of my next question which was on the spending behind IQOS. You mentioned I think that Q4 spending might be a little bit higher again as you rollout these new devices.

But just wanted to confirm that your total spending for the year in terms of incremental spend will still be around that $600 million range.

And then just want to get a sense as we look forward, how should we think about any increased levels of spending you might need to do again you timed increase conversion will it be the same level next year or do you need to ramp that further?.

The $600 million that we communicated early in the year is intact. We're on track for that. I was referring to the phasing of it where it's a bit heavier in the fourth quarter to support the 3 and 3 Multi launch but also some other initiatives. So it's more waiting within the quarters that I was referring to.

The total incremental spend net of CC the allocations is intact at about $600 million. As far as next year, I'll just reiterate what we said before which is that we expect that a chunk of that investment that we've made this year will support higher volumes going forward in next year.

In other words it won't need to be scaled with higher volumes and spread, whereas there will be another portion which we will need to continue to increase as we reach more consumers and as we move forward in additional geography. So it will be a mix.

We are also as we communicated at Investor Day working hard at reallocating our spending and getting spending efficiencies out of our current business as part of our transformation that will be through various efforts including the normal operations activities around productivity and as SKU rationalization supply chain.

But also a new initiative around obese measuring methodology to work hard on scrubbing our spending and making sure we are putting it to the great best use.

Some of which would be invested in improving revenue growth and helping to fund these investments that we need to make and some of which helps us with our step in our growth targets where we are growing from at least 5% compound annual growth rate on revenue stepping up to be at least 8% compound annual growth rate ex-currency both of them for the earnings per share..

Okay. That's helpful and then maybe just one final question from me if I may. Just in terms of IQOS and the progression in different markets.

You talked about the success you are having and maybe you could highlight again one of two markets that you are really excited about in terms of what you are seeing and where couple of more markets could really take off and then on the flipside of what are there any markets right now that are possibly presenting challenges or maybe similar in terms of complexity to what you're experienced in Japan where you are at now in that market or possibly that get you passed.

That would help. Just a couple markets you are super excited and then maybe a couple that you are little bit concerned about. Thanks..

Well, first of all we have broad geographic success with this product. It's doing well all across the EU, it's doing well across many many many markets. So, it's hard to pick up just one or two to say or particularly interesting Russia is the one that we've tried and we've seen very positive momentum there.

We've implemented a lot of tools and approaches that we intend to spread the other markets later in Russia.

As something of our pilot or testing ground and we've seen excellent success and excellent execution by the team in Russia around all sort of tools that would regard a digital and other approaches that we will continue to roll out in other markets as well.

I mean I think the big challenge as we've talked about quite extensively being overcoming in Korea this issue around misunderstanding caused by the statement that were made and trying to reach consumers and make sure they get the accurate message about what this product does to you.

And then of course in Japan where we have very good initiatives coming now very soon in the fourth quarter not just the 3 and 3 Multi launch but also the HEETS launch at the mainstream prince of ¥470 and that will help us in the more price sensitive areas as well we'll start with it and of course the messaging the approach to the consumer base improving our execution across the whole line we've been working very very hard on that across all the markets.

That are actually focusing on Japan and Korea and we hope to see the benefits from these initiatives really start to show up essentially in 2019..

Thank you..

Our next question comes from the line of Chris Growe of Stifel..

Hi, just had a couple of questions for you. I want to ask within the combustible business, if you could speak to like the mix performance. Just thinking about the context of having some conversions of discount brands around the world to global brand and just comp mix overall is performing to the mix of country and product mix in that question.

Just curious if you can comment on it?.

Yes, we have been working at consolidating brands into the global brands for efficiency regions. Because you can support essentially a campaign and an approach walk in the field [indiscernible] for only a restricted number or smaller number of global brands.

So moving some of the local brands, a great example is what we did in Russia moving some brands in the Philip Morris and being able to support it better and you see Philip Morris growing in Russia. That's for efficiency reasons, but also for consumer reasons, it gives consumers a move established brand to migrate toward.

I mean obviously there are some challenges around mix in certain countries, I mentioned Indonesia earlier where you have certain price point we are moving through and you have some down trading that occurs over time that can flow the other way depends on which brands are going through which price point.

But we are focused on getting more efficient and working on consolidating our brands around the world..

Just to reiterate is that moving to some of those global brands from more local brands is that a sector mix is that a positive or a negative?.

Well, so far as you can over time establish a stronger brand and then have it move up a bit in pricing it can be more helpful.

A lot of the smaller local brands tend to be at lower price points, so over time you can establish a Chesterfield or a Philip Morris in the market, you can move it up off the bottom of the pricing and get it delivering a bit more benefit from the mix perspective..

Okay. Thank you.

And then I'm curious if you can say how many market do you expect for IQOS to be in for the year? Is that kind of continuing to increase overall into 43 before 42, 43 before?.

Right now we have lots of room to grow within the markets where we are already launched. In almost all the markets except for a handful, we still are not completely national we're focused more on bigger cities and on areas that are good place to start, where we have opportunities to spread geographically.

A good example of that is Russia, where we've seen tremendous success in the cities where we've launched. But it's only representing 20% of the volume. So nationwide we're a little over 1% market share, 1.1% but obviously in the focused areas where we launched we're much higher than that.

So, we have plenty of room to grow in a lot of the markets where we've already launched. Now we do periodically add additional markets as it makes sense.

Sometimes that's because of the tax or the regulatory environment has finally gotten to where it supports this product and we want to lock it in and go ahead and launch and get things going there that's some cases. In other cases there are just markets we want to get going with because we think they show great promise.

Now over the three year period a longer period we would obviously have more markets in that. I'm talking about more of the shorter term period.

So you'll see the markets probably creep up a bit in the next six to 12 months, but I don't think we'll be adding a large number of markets in that time period and as you go further out of course we would like to get to some of the other big market that we haven't addressed yet..

I had just one quick follow-up which is on the Investor Day you showed a chart of an increase in shipments – increase in the sales of devices in July and August in Japan. That was a big of resurgence there of device sales.

Is that, and we saw a little bit of an increase at least sequentially from the day you gave at the Investor Day in Japan in HeatStick market share.

Should we expect those devices to contribute to HeatStick volume in Japan? Do we see some of that already in if you will in September for the quarter and is that starting to increase a bit as you sell more devices there?.

Well, obviously we're focused on converting smokers into the category. In Japan the category is still growing, we've added the whole heat-not-burn categories added well over a million new consumers over the course of the year and we're the biggest player in that. We're getting very good proportion of that. So you need devices to continue to do that.

We are selling devices to consumers as we convert them and a nice click in Japan. You also will have replacement devices particularly in market like Japan it's already been out there for a couple of year. You have consumers that want to replace their device, they want a second device.

When it comes to 3 and 3 Multi, we could very well see consumers buy this as an additional device not just for new consumers, we would expect quite a few of the existing consumers to be interested in the Multi for example. So, yes we see good trend on device sales since we communicated I think in May sort of the lower point.

We've seen some nice recovery since then, although some of that is holders as well, because we've been selling holders as well as the complete device. And so, I think we see a pretty good base in trend for optimism in Japan as far as the volume and share is stable, it's not showing a big uptick.

But we do expect these programs in the fourth quarter to start having the intended effect and our growth to be more occurring in 2019, we're very optimistic about what's coming in Japan..

Okay. Thank you very much for your time..

Our next question comes from the line of Pamela Kaufman of Morgan Stanley..

I just wanted to follow-up a little bit more on Japan and was hoping you can elaborate on the competitive dynamics there in heat-not-burn given some recent competitor product introductions over the last several months and competitors distribution expansion efforts over the last quarter?.

Yes. It's nothing really new. We've been talking about the competitors that have expanded their distribution and they've obviously benefitted from that. There were some supply constraints especially on the part of Japan tobacco earlier in the year. So they have been gradually able to expand over the course of the year.

We've shown before the places where the competitors have been the longest in other words where the churn has had sometimes settled a bit, and you see there are share in places like Tokyo and Sendai and Fukuoka has been encouraging and that trend is not any different it continues. So, it's really not new news on that front.

We do see that consumers' conversion rates to our product are very good and better than the competition and we do see that the product appreciation is higher. We have had the issue of reliability on our devices which is much improved now.

We showed at Investor Day, the more recent production batches of the 2.4 plus have been increasingly more reliable and robust and much lower return rates. That continues. And we believe that 3 and 3 Multi are very well executed devices and will be able to help us in the competition with consumers and so we're really encouraged.

And in fact from the point of view of competition, it's actually good for the category for competitors to come with better products and have overall category grow faster. So, we think we are in pretty good spot. We have a great innovation machine that we showed at Investor Day to keep us ahead of the competition and that's where we intend to stay.

But we are not complacent about it, we're working hard on it..

Thanks.

And just a question about the upcoming FDA PMTA meeting next week, what are your expectations for that meeting and do you think that there might be any clarity on IQOS coming out of it?.

Look, I don't have any new information with regards to the FDA from what we communicated at Investor Day. We're hopeful to hear from the FDA that it's really in their hands and I don't know that we're anticipating any particular meeting that's going to be the big breakthrough. So, there is really nothing new from what we communicated there..

Okay. Thank you..

And ladies and gentlemen we have time for one more question. Our final question will come from the line of Adam Spielman of Citi..

Thank you very much for allowing the follow up question. One of the things that struck me in your presentation was the pricing variance in combustibles in the EU of 8%.

I was just wondering if you could say where that came from in terms of geography is that from Germany mainly and in particular what's happening to France because that had negative variance is what I believe anyway depending on the [indiscernible]..

Yes. Germany is the biggest driver in EU pricing and there is no new news on France. We still have the situation there of expected higher prices going forward as the government has communicated and the pricing efficiency is not very good there because of the structure of the tax.

So, the overall pricing headwind that we had in France is still more of less what it was before..

And if you had to mention after Germany, the next two biggest contributors?.

Next two after Germany, well worldwide it would be like Philippines and some of the other ones. Within EU Germany is the biggest one. But we have pricing across the EU. I mean in Poland, in Italy there is pricing across the EU it's really hard to flag any one market that's driving it other than Germany being the biggest one..

Okay. Thank you very much..

And that was our final question. I'll turn the floor back over to management for any additional or closing remarks..

Yes. I just wanted to close with a couple of the key messages that we ended with Investor Day. It starts with our commitment to the success for transformation to the smoke-free future when it gets good for smoker in particular but also very good for shareholders.

I think you've seen that the efforts are starting in bear fruit in the volume numbers, the share numbers for this quarter gives us good momentum moving forward. It's built on that strong combustible tobacco business which depends on the foundation in a wake for us to form the transformation and get to a better place for shareholders.

Very promising growth in RRP's across the geographies you heard about.

We've got the innovation machine behind all this to try to stay ahead of it and all of it supports the achievable three year currency neutral compound annual growth targets that we communicated at Investor Day around at least 5% for next revenues ex-currency and at least 8% for the adjusted diluted EPS. So, I think our business is in good shape.

We're showing good momentum and we're looking forward to reporting the results going forward. Thanks very much everybody for being on the call..

Thank you, ladies and gentlemen. This does conclude today's conference call. You may now disconnect..