Tobacco Products

SIC 2100

NAICS 3122

The tobacco industry produces the world's cigarettes, cigars, smoking and chewing tobacco, snuff, and reconstituted tobacco. Certain industry firms are also involved in the industrial processing side of the business, which includes stemming and re-drying tobacco.

INDUSTRY SNAPSHOT

The tobacco products industry early in the twenty-first century was one of stunning contrasts. In many western countries consumption was falling, as it had done through the 1990s. The United States, for instance, was characterized by a particularly vocal and effective antismoking movement that helped bring down smoking rates and lobbied for increasing restrictions on smoking in public. Tobacco companies in the United States also faced a growing number of lawsuits brought on behalf of smokers and victims of secondhand smoke who had become seriously ill or died, as well as state and federal legislative proposals that threatened to further restrict the industry. For example, the Master Settlement Agreement, signed on November 16, 1998 by various state attorneys general and leading U.S. cigarette makers, included the stipulation that cigarette makers pay US$206 billion to U.S. states over a 25-year period to reimburse costs associated with treating illnesses related to smoking. Analysts predicted that the settlement would increase the cost of cigarettes and thus contribute to a decrease in cigarette smoking throughout the first decade of the twenty-first century. In fact, according to the U.S. Department of Agriculture, cigarette consumption in the United States fell by 7.5 percent between 1998 and 2000 as a result of increased prices, increased understanding of health risks, and bans on smoking in public places.

In Asia and Eastern Europe, however, cigarette sales increased as income levels rose (with U.S.-made cigarettes becoming very popular). In China, for example, it was estimated that per capita consumption rose 250 percent between the early 1970s and late 1990s. In total, global cigarette consumption, accounting for about 90 percent of all tobacco use, was fairly flat throughout the 1990s, tending to move upward at a rate of 1 percent or 2 percent a year. The divergent attitudes toward smoking between the East and the West had a profound impact on the major cigarette manufacturers. With markets in North America and Western Europe sluggish, the big multinational tobacco companies—Philip Morris, R.J. Reynolds, Japan Tobacco, and British American Tobacco (BAT) among them—aggressively pursued sales in emerging markets, such as Russia. Although a Russian economic downturn in 1998 allowed domestic brands to gain ground on more expensive imports, improved economic conditions there in 2000 boded well for the industry leaders, which by then were pursuing development of their own manufacturing facilities in Russia. A new excise tax on cigarettes, passed by the Russian Duma (parliament) in 2003, was not expected to diminish sales, which according to Pravda are worth about US$15 billion annually.

During the late 1990s, a growing number of people, especially in the United States, turned to products other than cigarettes, notably cigars and smokeless (chewing) tobacco. There was growing concern among public health officials at the possible misapprehension that cigars and smokeless tobacco were not health risks. Of concern as well was the rise in cigarette smoking among children and teenagers. Legislation emerged related to the targeting of teens in cigarette advertising, and several countries put in place laws that prevented tobacco companies from marketing their products to children under the age of 18.

Given the numerous uncertainties of the tobacco industry's future, few companies were eager to enter the business, thus limiting competition to current players. In addition, many industry leaders pursued consolidation aggressively in an effort to broaden international reach, a practice that reduced the number of large cigarette manufacturers further. At the beginning of the twenty-first century, Philip Morris, BAT, and Japan Tobacco accounted for 40 percent of the global tobacco industry. At the same time, however, the profit potential in cigarette manufacturing remained considerable. As famed investor Warren Buffett was quoted in Barbarians at the Gate, "I'll tell you why I like the cigarette business. It costs a penny to make. Sell it for a dollar. It's addictive and there's fantastic brand loyalty."

The World Health Organization has estimated that about one-third of the world population over the age of 15 smokes tobacco. In 2004 there were about 1.3 billion tobacco users. By 2025, this number was expected to rise to 1.7 billion. Tobacco is grown in at least 100 countries and international sales are estimated at over US$330 billion. The leading brand of cigarettes around the world is Philip Morris's Marlboro.

ORGANIZATION AND STRUCTURE
Stemming and Re-drying

In the United States and other countries, tobacco processors purchase tobacco leaf from farmers and prepare the plant for manufacture through stemming and re-drying. Three companies—Universal Corporation, Standard Commercial, and DIMON Inc.—control most of this business, and all have large operations in important tobacco growing regions of the world. DIMON is the result of a 1994 merger between Dibrell Brothers Inc. and Monk-Austin Inc., formerly rivals in this segment. The merger created the world's second largest leaf tobacco dealer behind Universal. In 2004, Universal remained the largest of the global leaf tobacco dealers, with sales of US$2.27 billion. Second-ranked DIMON, which posted sales of US$835.3 million in 2004, announced plans in 2005 to merge with Standard Commercial, which reported 2004 sales totalling US$780 million.

Large tobacco processors either purchase the farmers' tobacco at auction, a practice common in the United States, or buy tobacco directly from a farmer. In certain overseas markets where firms have contracted to buy a farmer's entire crop, such as in Zambia, the companies often provide financial and technical assistance to support the grower and ensure the tobacco's quality. In the United States, most processors' tobacco purchases at auction are made against specific orders from the major domestic and overseas cigarette producers. In many cases, the processors' relationships with cigarette producers extend over many years.

After purchase, tobacco is processed to meet the specific needs of the cigarette manufacturer, whose representatives are frequently at the processor's facilities to monitor the work on a company's particular order. At the factory, tobacco is reclassified according to grade; blended to meet customer requirements regarding color, body, and chemistry; and threshed to remove the stem from the leaf (although some tobacco is processed in whole leaf form). Processed tobacco is then again dried to remove excess moisture so it can be held in storage for long periods. The processors generally do not manufacture cigarettes or other consumer tobacco products.

Asia

The tobacco industry in Asia has been dominated by national monopolies or near monopolies like the China National Tobacco Corporation, the Thailand Tobacco Monopoly, and the Korea Tobacco and Ginseng Corporation. China is the largest producer and consumer of cigarettes worldwide, manufacturing about 1.6 trillion cigarettes annually. In 1994, the Japanese government partially privatized its tobacco monopoly in a stock offering that received a notably poor reception from the investment community. Japan Tobacco International Inc. continued to control most of the market, although the share of imported cigarettes sold in the country rose after trade rules for the product were liberalized in 1985. By 2002, leading multinational firms had secured roughly 20 percent of the Japanese market, while Japan Tobacco maintained a 75 percent share. Tobacco production in India, the second largest country in terms of tobacco production and the third largest in terms of consumption, is regulated by the Tobacco Board, which sets output levels and manages unsold stocks.

Europe

The role of government in the tobacco industry tends to be more varied and less prominent in Western Europe. Italy and Portugal both feature state-owned tobacco monopolies that control the manufacture and retailing of tobacco products. The former monopolies of France and Spain, Seita and Tabacalera, respectively, were privatized in the late 1990s; the two companies eventually merged to form Altadis, one of the largest cigarette makers in the world and maker of the famous Gauloises brand. Tobacco companies are also privately owned in the United Kingdom, Germany, Belgium, Greece, and Ireland. In the United Kingdom, Imperial Tobacco is the top cigarette manufacturer; with second-ranking Gallaher Group, it controls about 80 percent of the industry there. Philip Morris, Reemtsma, and BAT are influential forces in the German market.

Even in countries with state-run monopolies, however, the big firms have gained substantial market share through licensing and export maneuvering. In France, for example, Philip Morris, Rothmans, and R.J. Reynolds secured 35 percent of the market before the state-run Seita was privatized. Philip Morris doubled its sales between 1984 and 1994 in Europe; its Marlboro brand became the industry leader—even though it often cost twice as much as products of the...

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