NEW YORK -- Philip Morris Cos. (MO) may announce a change to its current pricing and promotional structure to its sales force Monday, industry sources told Salomon Smith Barney analyst Bonnie Herzog.

Shares of Philip Morris, a Dow component, were recently trading down $1.30, or 3.3%, at $38.53, on volume of 10.4 million. Earlier, the stock fell as low as $37.77. The stock's average daily turnover is 9.9 million. "Our industry contacts continue to confirm our earlier belief that a major strategic change could be announced to Philip Morris salespeople on Jan. 6 and we believe there is a good chance that the company announces a drastic change to its current pricing/promo strategy given the pressure it has been facing," Herzog said Monday in a research note. The analyst, who rates the stock an outperform, wasn't immediately available for comment. Salomon has an investment banking relationship with the New York tobacco and food company, and the firm makes a market in Philip Morris stock. Also, at least one of Salomon's employees or directors has a seat on the board of Philip Morris, according to disclosures provided in the note. A Philip Morris U.S.A. spokesman declined to comment on Herzog's note, citing the company's policy not to comment on speculation. He also declined to comment on whether Philip Morris U.S.A., the company's tobacco unit, would be in communications with its sales force Monday. Other tobacco stocks also were trading lower Monday on concerns that a shift in Philip Morris' pricing strategy - if the speculation is true - will affect prices charged by its rivals, according to Goldman Sachs & Co. analyst Judy Hong. Hong doesn't own Philip Morris shares, but her firm has an investment banking relationship with the company. A Philip Morris spokesman couldn't comment on the change in the company's stock price due to Philip Morris' policy not to comment on stock price fluctuations. He said the company hadn't issued any news Monday. U.S. tobacco company profits have been squeezed by price breaks offered to lure consumers away from bargain-basement smokes, which have become increasingly popular as the economy has weakened and states have pushed up cigarette excise taxes. The less expensive cigarette brands, made mostly by small newcomers to the industry, have been expanding market share fast, and larger tobacco companies are searching for ways to fight the trend. Philip Morris has been pouring money into discounts, coupons, and buy-two-get-one-free offers for several months, with its rivals, such as R.J. Reynolds Tobacco Holdings Inc. (RJR), having to match these moves to remain competitive. R.J. Reynolds shares were recently down $1.34, or 3.2%, to $40.43, on volume of 1.5 million. Average daily volume is 916,500 shares. Reynolds, Winston-Salem, N.C., is the nation's second-largest cigarette manufacturer. Philip Morris is the largest. Shares of Carolina Group (CG) - the tracking stock issued by Loews Corp. (LTR) to track the performance of Lorillard Inc., the maker of Newport cigarettes - were off 88 cents, or 4.3%, to $19.52, on volume of 466,000 shares. Average daily volume is 337,300 shares. Philip Morris could consider several options, according to Salomon's Herzog. The company could get "aggressive" on its Basic pricing, on Marlboro pricing, or cut wholesale prices on all of its four core brands - Marlboro, Parliament, Virginia Slims and Basic. "Depending on the strategic change announced, this may be the catalyst we're looking for to get more aggressive on the stock, especially if there is a sell-off on the news," Herzog said in her research note. Still, there "is a very high probability" that whatever strategic change Philip Morris picks, it will hurt Herzog's current estimate of 5% annual earnings gains, she said. Herzog's earnings estimate for 2003 of $4.80 a share already assumes the company will aggressively promote Basic, narrowing the relative price gap between Basic and deep-discount cigarettes to 27%. Under this scenario, Marlboro, Philip Morris best-selling brand, maintains a relative price gap of 55% to the deep-discount brands, according to Herzog. If the company opts to reduce Marlboro prices through promotions, the cost is "significant," and the volume growth is "minimal," Herzog said. "It appears the only way to narrow the relative price gap between Marlboro and deep-discount brands to Philip Morris' target of 45% is to increase promotions/buydowns on Marlboro or instigate a price cut and increase buydowns," Herzog said. Buydowns are typically payments made to the retailer that are then passed along to the consumer in the form of lower prices. Philip Morris backed away from its 2003 earnings forecast of 8% to 10% earnings per share growth in mid-November, saying it would provide more details in late January when it reports its 2002 results. The release of 2002 earnings is now slated for Jan. 29. For 2002, the company is expecting 3% to 5% earnings increases led by advances at its international tobacco business and at Kraft Foods Inc. (KFT). According to Thomson First Call, Wall Street analysts expect Philip Morris to earn $4.57 a share in 2002 and $4.74 a share this year. In an interview with Dow Jones Newswires on Friday, Sandy Sanders, a buy-side analyst at Evergreen Investments, said he expects Philip Morris will have to lower its 2003 forecast. He expects the pressure on the U.S. tobacco business may result in cigarette makers reporting 2003 earnings that are "flat to down" from 2002.

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