Big Tobacco Turns the Tables

Big tobacco is no stranger to litigation. The threat of lawsuits hangs constantly over the heads of major tobacco players. But now, determined to fight back, Philip Morris (NYSE: PM  ) and British American Tobacco Australia, a wholly owned subsidiary of British American Tobacco (NYSE: BTI  ) , have decided to sit on the other side of the courtroom and are suing the Australian government over an aggressive plan to remove all logos from cigarette packs.

If the logo doesn't fit
The Australian plan, passed on November 10th, is the world's first plain-packaging law. Under the plan, logos, trademarks, colors, and graphics would be removed from all cigarette packages. They would instead be covered with health warnings and dramatic images illustrating the long-term effects of smoking. Packages would also be a drab olive green color, specifically chosen since research has shown it to be the least appealing to consumers. The law also comes with a 25% tobacco tax increase.

Restrictive packaging is nothing new for cigarette companies, though. The 2009 Family Smoking Prevention and Tobacco Control Act mandated that cigarettes sold in the U.S. must carry a warning label comprising 50% of the front and back of packages. This directly affects U.S.-centric cigarette companies like Altria (NYSE: MO  ) , Reynolds American (NYSE: RAI  ) , Lorillard (NYSE: LO  ) , and Vector Group (NYSE: VGR  ) . Yet these restrictions, as well as others by major nations like Columbia, have not gone as far as this recent Australian ban, which would entirely wipe company's logos from cartons.

Legal track record
Cigarette companies are claiming that the packaging restrictions violate international trademark and intellectual property laws, and are seeking billions in compensation. While typically on the losing side of legal battles, this may be a turning point. Major cigarette companies in the U.S. recently received a favorable ruling from U.S. District Judge Richard Leon. The case, which was their first legal challenge after 45 years of accepting packaging restrictions, was filed on free speech grounds. In Judge Leon's 29-page opinion, he expressed that he felt the images' graphic nature went beyond the simple conveyance of facts.

While it is still unclear which way the Australian case will fall, the two cases carry a striking resemblance. If the Australian court chooses to side with Philip Morris and British American, it could signal the point where big tobacco has reached their maximum regulation. Given that approximately 30% of Australians smoke, it would seem that tobacco companies are more likely to find sympathy there than anywhere else. But with the average smoking rate steadily declining on the continent since the 1950s, that expectation probably isn't reasonable.

A Fool's perspective
While a victory in Australia would be big news for these companies, I personally don't see any end in sight for the long-term creep of regulation, litigation, or taxes. If governments reach the point where they can no longer restrict the packaging cigarettes come in, they will still have tax increases or smoking bans in their arsenal.

I still recommend Philip Morris as the best way to play tobacco stocks and the industry's generally high dividends. They have the most opportunity ahead of them -- specifically in Latin America and Asia. But if all this litigation risk makes you queasy, you can also check out Star Scientific (Nasdaq: CIGX  ) , whose smokeless products are generally immune from the tobacco industry's threats. Star Scientific does not pay a dividend, though.

To see how any of these companies manage their long-term threats, add them to My Watchlist. It's a free service offered by The Motley Fool to keep you current on all their relevant news and analysis. You can click the links below to add them.

Austin Smith owns no shares of the companies mentioned here. The Motley Fool owns shares of Altria Group and Philip Morris International. Motley Fool newsletter services have recommended buying shares of Philip Morris International and creating a bear put ladder position in Lorillard. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Read/Post Comments (3) | Recommend This Article (4)

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Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 22, 2011, at 2:39 PM, mm5525 wrote:

    Good analysis. As a PM long (my #1 holding) I earnestly applaud PM's protection of their intellectual property. You did not specifically mention this in the article, but an additional PM talking point will definitely involve counterfeiting. If all of Australia's smokes are in the same olive packages, it'll dramatically make it easier to counterfeit. After all, given Australia is right next to China, who apparently has no regard for intellectual property whatsoever or creating knock-offs of legitimate company trademarks, that will be the tipping point to get the Australian's to back off such radical legislation. When they see tax revenues could fall from such measures such as counterfeiting, they ought to result to more reasonable restrictions. Hopefully.

    Rest assured, PM and others will pound the table about counterfeiting resulting in a lack of tax revenue for Australia from it being impossible to tell the difference between a legitimate pack of cigarettes and a knock-off until they're blue in the face.

    Even the USA's higher courts have determined, so far, that half the pack being filled with graphic labeling is not legally fair to legitimate businesses. Again, so far. At least the FDA realizes it's not going to be as easy of a road as perhaps they hoped. Obviously the American final chapter is far from being written, just as the Australian issue is far from over.

    While it's fine to discourage people from smoking, it's not fine to take away legitimate company trademarks that are worth billions. People are going to smoke. Given how strapped governments are, I doubt they're going to really risk losing this tax revenue they so badly need.

  • Report this Comment On November 22, 2011, at 9:44 PM, TMFBWItime wrote:


    I believe you are correct about the inevitable problem of counterfeiting, and PM has cited his as a main reason to discourage the overly aggressive Australian label ban. I did not cover it in this piece, but will likely be doing a longer follow up piece later and would like to cover it then.

    Thank you for your insight, good choice to hold PM long!

    Fool on.

  • Report this Comment On November 28, 2011, at 3:32 PM, Chippy55 wrote:

    Just like Hussein Obama raised tobacco taxes by 60 cents a pack during his first days in office, the Aussies are going to make people poorer and increase crime. How do I know? Because people who are addicted to nicotine will steal money to get their nicotine fix. And they like hanging out in bars with other smokers, and when they get drunk and feel like smoking and drinking more they will pay $11 for one pack of ciggies, look at New York, you can buy a SINGLE cigarette now. Stay away from smokers, they will eventually cost you money, and don't hire them, they will end up stealing from you to support their habit, and smokers have other bad habits.

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