In a recent article I discussed that, in addition to affordability, the introduction of plain packaging in Australia is a threat to the tobacco industry. It now transpires that the European Union is considering a watered-down version of the same with graphic images and warnings of the dangers of smoking taking up 75 percent of cigarette packets, while individual states will be allowed to introduce plain package legislation.
And this is not the end for Europe. Russia, the largest tobacco market after China, is considering legislation which may see tobacco advertising be outlawed and smoking in public places such as restaurants, bars and hotels been phased out. It will also ban kiosks and outlets in stations from selling cigarettes. If passed, the restrictions will be phased in and are expected to be fully in force by 2016.
At this junction, it is good to remind ourselves that just four tobacco firms, including British American Tobacco (NYSEMKT:BTI), Imperial Tobacco (OTCPK:ITYBF), Japan Tobacco (OTCPK:JAPAF), and Philip Morris International (NYSE:PM), control more than 90 percent of Russian tobacco sales. The cigarette market was estimated at be worth around $22 billion in 2011 by Euromonitor International. As I mentioned in my earlier article, the same four have also substantial sales in the rest of Europe.
Clearly, once implemented, the European Union's nearly plain packaging together with Russia's introduction of tighter tobacco sale regulation is going to hurt revenues (and potentially dividends) from all internationally operating tobacco firms with substantial European activities.
It is therefore not surprising that some of the tobacco industry's biggest players are seeking to develop credible products which provide alternatives to smoking.
British American Tobacco makes its move
I have already alluded to British American Tobacco's interest in the development of so-called e-cigarettes, with its Chief Financial Officer Nicandro Durante claiming, earlier in September, that the size of the market for tobacco alternatives could account for as much as 40% of BAT's revenues in 20 years' time.
Last year, Nicoventures, a British American Tobacco subsidiary, was set up to focus on what it called "the development and commercialisation of innovative regulatory approved nicotine products."
With today's announcement British American Tobacco has made its first major move with the acquisition of CN Creative, a Manchester-based company that specializes in the development and production of non-combustible cigarettes intended to offer smokers a less risky alternative to cigarettes.
According to SkyNews the acquisition is believed to be costing several tens of millions of pounds, the purchase has clearly far-reaching strategic importance to the group.
CN Creative is regarded as one of the pioneers of some of the world's biggest-selling electric cigarette brands. According to the announcement made by British American Tobacco, the company has its own research and development facilities, and, currently has several e-cigarette products on the market as well as new, innovative e-cigarette technologies in the development pipeline.
Among the Manchester-based company's products is Intellicig, which it claims is the world's best e-cigarette, selling in 26 countries around the world, including in the UK. CN Creative also manufactures ECOpure, a nicotine-based product, and is developing a new generation of products under the name Nicadex that the company says "will exist under the medicines regulatory framework as a smoking cessation device/drug."
Kingsley Wheaton, Director of Corporate and Regulatory Affairs at British American Tobacco, said:
"Our core business is, and will remain in, tobacco but we've always made it clear that our goal is to provide those adult smokers who are seeking safer alternatives to cigarettes with a range of reduced-risk products that will meet their varying needs.
"And we believe the innovative e-cigarette technologies that CN Creative has been developing over the past few years will help us move closer to achieving this goal."
While the details of the acquisition are rather sketchy, British American Tobacco's move to acquire one of the main players in this emerging market is clearly a watershed moment for the e-cigarettes market.
Commenting on the development of the e-cigarettes market, Dr David O'Reilly, group scientific director of British American Tobacco, commented in Raconteur's Electronic Cigarettes Times supplement - an independent hard-copy publication - on 6th December, as follows:
"The small e-cigarette players will disappear over time, because as these products become more popular and more consumers want to use them, big players will use their important supply chains and marketing firepower to overtake them. But it is mostly the burden of regulation that will change the market. Unless you are prepared to invest a lot of money into the necessary science and clinical work to show that your product is efficacious, you're done."
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: Based on our dividend valuation methodology, currently, both British American Tobacco’s as well as Imperial Tobacco’s share prices are trading well above their historical undervalued levels.