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Big Tobacco’s smoke-free transition under scanner as WHO targets vaping

December 15, 2023

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Big tobacco firms shifting to new nicotine products, including Philip Morris International (PMI) and British American Tobacco (BAT), have the most to lose if tobacco alternatives face the same rules as cigarettes, investors and analysts said while some point out that more regulations – with proper enforcement – could actually give the major tobacco companies an advantage.

The World Health Organization on Thursday urged governments to apply tobacco-style controls to vapes, saying they are getting new users hooked on nicotine, spelling trouble for tobacco companies developing alternative nicotine products, as tighter restrictions and growing awareness of health risks squeeze their cigarette businesses.

PMI, the world’s largest tobacco company by market value, has led the shift to smoking alternatives, helping its price-earnings ratio rise substantially compared with rivals. It also means it has the most to lose if tough regulations extend to nicotine products more broadly, said Pieter Fourie, manager of Sanlam’s Global High Quality Fund, which holds tobacco stocks.

“Maybe that advantage doesn’t remain,” he said of PMI’s higher valuation.

The investment case for companies like Imperial Brands would be less affected by such changes, he added.

Imperial reset its strategy in 2021 to focus on its core tobacco business, lowering its aspirations for new nicotine products after missing several sales targets and also losing market share in its core cigarette division.

BAT is investing heavily in alternative products, focused on vaping and oral nicotine, and wants 50 per cent of its revenues to come from these by 2035. PMI’s target is two-thirds of net revenues from ‘smoke-free’ products by 2030.

PMI has invested aggressively in smoke-free heated tobacco products, where devices heat up tobacco without burning it, in an attempt to avoid harmful chemicals produced via combustion.

The WHO’s vape recommendations come ahead of a biennial conference for 183 governments party to a global tobacco control treaty, set for next year, where countries are set to discuss new nicotine products including vapes and heated tobacco.

The UN agency has no authority over national nicotine regulations and only provides guidance. While the treaty is binding, it’s unlikely governments party to it will adopt new rules on alternatives as part of the agreement any time soon. That’s because the treaty is developed by consensus, and governments have very different views on how to approach the new nicotine products.

Some nations like the UK have put vapes at the heart of public health efforts to reduce the death and disease caused by smoking. Elsewhere, in large markets like India, vapes and heated tobacco products are banned altogether.

Countries that do adopt WHO guidance voluntarily tend to do so at different speeds, said Brett Cooper, managing partner at equity research firm Consumer Edge. That makes fast, global shifts in regulating new nicotine products unlikely.

Still, any moves towards stricter regulations put tobacco companies at a disadvantage versus today, Cooper said, while caution from the WHO makes it harder for them to lobby for more favourable regulations globally.

Both Cooper and Fourie pointed out that consumer demand for nicotine is unlikely to fade any time soon.

“Unless you actually make nicotine a banned substance, then these companies have a future market opportunity,” agreed Steve Clayton, head of equity funds at Hargeaves Lansdown, which holds tobacco company stocks.

Controlling new nicotine products has also proven difficult in many nations. In the US, manufacturers from China have flooded the market with illegal flavoured vapes in recent years, capitalising on poor enforcement after regulators tried to clamp down on e-cigarettes.

Australia, where vapers need a prescription to obtain nicotine-containing e-cigarettes, has also struggled with a flood of illegal products. That has left tobacco companies competing with an onslaught of smaller players which often flout the rules.

Clayton and Chris Beckett, head of research at Quilter Cheviot, another tobacco investor, said that more regulations – with proper enforcement – could actually give the major tobacco companies an advantage. It would raise barriers to entry and reduce competition, helping tobacco companies replicate the advantages they have with cigarettes, Beckett said, including the ability to charge high prices.

“Translate a similar sort of environment from combustible cigarettes to vaping and heated tobacco, and you end up with incumbent Big Tobacco having very large market shares and a very profitable business,” Beckett said.