Is the Future of Smoking Smokeless?

Source from:  Tobacco Reporter  09/25/2013

E-cigarettes are becoming increasingly visible as a central but divisive focus for the future of the tobacco industry. On the one side, they offer a solution to a flat, or declining, global market for traditional cigarettes. On the other, regula-tors and health campaigners are divided over whether they will be beneficial as cessation devices or ultimately damaging by legitimizing smoking again.

The rise of e-cigarettes has been stratospheric. Starting out in China a decade ago, the vapor-based nicotine delivery system has taken just a few years to emerge from the obscurity of market stalls and classified mail-order advertisements into the mainstream as the alternative nicotine delivery system of choice. By supplying an experience designed to closely replicate smoking, but with a much lower perceived risk, e-cigarettes manage to bridge the gap between consumers hoping to kick the habit and those looking for opportunities to continue smoking in the face of regulations such as smok-ing bans. Lobby group Ash has estimated there to be 1.3 mil-lion "vapers" in the United Kingdom, with the United States estimated to have around twice that number.

Where there's smoke

In a global tobacco market where growth opportunities are limited, not just by regulation, but by declining consumption, especially in developed countries, e-cigarettes represent a substantial avenue for new revenues. The value of the global e-cigarette market is difficult to estimate, largely because of fragmentation, with hundreds of smaller suppliers emerg-ing. A high proportion of sales are also still made through informal retail channels. In 2012, the value of the global e-cigarette market was estimated to be more than $2 billion by Euromonitor, a research consultancy, which claims this is already equivalent to the small-cigar market. Canaccord Genuity recently forecast the market to grow by 50 percent to $3 billion this year. In fact, the investment bank has high expectations for e-cigarettes, describing them as "the most significant development in the history of the organized tobacco industry."

While this seems like an overstatement, the sense of antici-pation around e-cigarettes is tangible. Bonnie Herzog, a Wells Fargo analyst, was equally enthusiastic, stating in January that, in the U.S. market, where 2012 sales were valued at $400 million–$600 million, "consumption of e-cigarettes could surpass consumption of traditional cigarettes within the next decade." Globally, Euromonitor has taken a more cautious approach, expecting e-cigarettes to account for 4 percent of the international tobacco market by 2050, with cigarettes maintaining a dominant share of 88 percent. However, this is still a significant increase from less than 0.3 percent of a $700 billion global tobacco market.

Big tobacco gets involved

Amid all the excitement, big tobacco has been slow to jump on the e-cigarette bandwagon. Having already had their fingers burnt by previous innovations, a degree of caution is understandable. However, the growth and market potential have become impossible to ignore, and big tobacco is increas-ingly gearing its strategies toward e-cigarettes, at the potential expense of other alternative product developments.

Lorillard got the ball rolling in 2012 with the $135 million acquisition of e-cigarette firm Blu Ecigs. Investments and com-mercial agreements have subsequently been announced by other key players, including Imperial Tobacco, Japan Tobacco International and British American Tobacco, which spent around £40 million ($60 million) on CN Creative. Belatedly, the U.S. market leaders, Altria and R.J. Reynolds, have also climbed aboard. RJR, whose attempt to launch a smokeless cig-arette brand in the 1980s flopped, has launched a homegrown e-cigarette brand called Vuse. Philip Morris International is notable by its absence, although this is largely because the firm has been developing its own unique e-cigarette technology in a bid to deliver a differentiated product.

Late to the party?

The sudden spate of interest and investment from big tobacco companies is telling but remains small-scale compared to the continued emphasis on traditional "combustible" ciga-rettes. Some observers think this will prove detrimental, with big tobacco lagging behind a gold rush led largely by  small-scale innovators. If e-cigarettes begin to fulfill any-thing like the potential expected of them, this could prove prophetic. E-cigarette enthusiasts have likened the impact of the product to the addition of filter tips in the 1950s, which caused initial mistrust but quickly dominated the market.

Another problem for big tobacco lies with the number of firms operating in the e-cigarette space. While cigarettes are highly consolidated and concentrated, the e-cigarette market is the complete opposite, with hundreds of small brands jostling for space and no international equivalent to brands like Marlboro.　Consolidation will no doubt take place, and many brands will fall away as leaders emerge, but this presents a delicate balancing act for big tobacco. On the one hand, investing heavily now runs a risk of overpaying for brands that may end up becoming casu-alties of the consolidation process. On the other, waiting until the dust clears means future acquisitions with a more significant share could be exponentially more costly. Picking a winner is crucial to successfully tapping into the market.

Slamming the door shut?

Hesitancy from big tobacco is perhaps more understandable when set into the regulatory context. The tobacco industry is littered with innovations that have been subsequently stifled by lobbyists or quashed by regulators, and e-cigarettes could prove to be no different. E-cigarettes are gaining promi-nence just as the EU is taking measures to ban menthol and other flavored cigarettes. Flavored cigarettes were banned  in the U.S. in 2009, and it seems unlikely that the margarita-flavored e-cigarettes currently available will remain so for long. Countries such as Australia, Turkey, Canada, Brazil and Argentina have already banned the import, sale or consump-tion of e-cigarettes, closing the doors to many key potential markets before they have even opened. The U.K., where e- cigarettes are currently unregulated, is bringing in a series of measures, including a law to reclassify them as medicines by 2016. In the U.S., not only has the FDA been fighting to clas-sify them as drug-delivery devices rather than tobacco prod-ucts, but various states have been taking steps to regulate their sale and use. Those hoping to smoke e-cigarettes as a means of sidestepping smoking bans could find themselves subject to a similar degree of regulation as traditional cigarette smokers within a few years. The confusion over classification is also reflected among consumers, who are divided between those who use e-cigarettes to give up traditional smoking and those who are just looking for a lower-risk means of maintaining their habit. By tapping into e-cigarettes as a cessation device, there is a chance that tobacco companies could be hastening their own demise. But marketing them as tobacco products will ultimately put them further at odds with regulators whose aim is to end tobacco usage altogether.

The issue of risk is another gray area. Although e-cigarettes are perceived and marketed as having a lower threat to health, detractors continue to argue that this remains largely unproven. It must be remembered that the last significant innovation in tobacco was the development of "light" ciga-rettes, which were perceived to hold lower risk. "Lights" pro-vided a timely boost to big tobacco in the 1970s and 1980s, but subsequently descended into costly class-action lawsuits and an intensification of regulation. This is a lesson that could one day come back to haunt the e-cigarette companies of today. Enditem