Share Prices & Company Research


02 September 2019

Blowing smoke

A greater awareness of health, the environment and the pace of technological advancement have been some of the main catalysts for disruption of the world’s stalwart industries. These changes have affected stocks which were once thought unshakable through the 20th century and earlier part of this millennium. Last week’s announcement that US tobacco giants Philip Morris International and Altria are planning a merger is a sure sign of the times and the challenges that are presented by the changing consumption and regulatory landscape for tobacco.

The tobacco industry isn’t alone. The advent of electric vehicles and the subsequent massive investments required by motor manufacturers to negotiate the change reverberates through the industry, leaving global manufacturers keen to form alliances as they battle rising costs and stagnating sales.

Back in 2007, Altria and Philip Morris were one and made up the world’s largest tobacco company. At the time, the rationale for the split which happened in 2008, was to form separate companies that would focus on the domestic US market and the international market, both of which offered very different dynamics. Philip Morris International (PMI) would do business globally, looking to capitalise upon emerging markets with less rigid regulatory frameworks as increasingly affluent smokers looked to upgrade to premium cigarette brands like Marlboro, whereas US domestic growth had been limited by significant litigation and decreasing numbers of smokers and Altria would focus on this area.

As referenced above, the increased consumer preference for reduced risk products is a clear motive for the merger. Both Altria and PMI have interests in the reduced risk products that have gained significant traction. Over recent years, PMI has invested around US$6bn to develop a heated tobacco offering (known as IQOS) that provides an experience like smoking cigarettes but with reduced harmful effects when compared with burning the tobacco in a regular cigarette. Moreover, in 2018 Altria invested US$13bn in Juul, a popular e-cigarette company, acquiring a 35% stake.

Under the merged business, each party would be able to achieve the full economic benefits of both reduced risk product offerings. With the IQOS offering performing well in Asian markets, with 7m smokers converted to heated tobacco use, the combined group would be in a strong position to outperform other tobacco majors.
With that said, investor reaction to the merger talks has been lukewarm, with the share price of both firms falling in the market. Current Philip Morris shareholders are concerned about US legal and regulatory issues which could encumber the merged business while Altria shareholders felt that the deal would not suitably compensate them for their shares.

With shareholders on the fence about the proposal and the increasingly difficult regulatory backdrop for e-cigarette use in the US, the merger may not get the shareholder approval needed to go through. However, we can be certain that a strategic change is required for all tobacco majors. The tobacco market is hugely more dynamic than it was in the last decade and action is required to secure the longer-term viability of these companies.

Nicholas Thompson, Assistant Investment Manager


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Please note, investments and income arising from them can fall as well as rise in value and you may get back less than you originally invested. Our view does not constitute a recommendation to buy or sell the investments mentioned. Past performance and forecasts are not reliable indicators of future results or performance. 
Blowing smoke
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