Big Tobacco Is Not Going up in Smoke

Big tobacco companies such as Philip Morris, Altria, and Reynolds American are changing with the times, reducing their dependence upon cigarette sales.

Feb 3, 2014 at 5:35PM

It is not a secret that the volume of cigarettes sold around the world is declining, and for some tobacco investors this is worrying. However, big tobacco companies including the likes of Altria Group (NYSE:MO), Philip Morris International (NYSE:PM), and Reynolds American (NYSE:RAI) are not allowing themselves to be left behind and are now starting to change with the times. 

Branching out
For a start, Philip Morris recently signed an agreement with Altria whereby the two companies will share the technology for electronic cigarettes, or e-cigs, and 'reduced-risk' products under several licensing, supply, and cooperation agreements.

This is actually a great deal for both companies. You see, to some extent Philip Morris, although a leader of the tobacco world, has gotten things wrong; the company has not taken the rise of the e-cig seriously. Specifically, while peers like Altria have had e-cig products under development for months, Philip Morris only announced its intent to enter the market in November. As a result, Philip Morris has found itself lagging the field when it comes to the subject of e-cig technology.

Still, what both Altria and Philip Morris International have is the world famous Marlboro brand name, which is easily the most famous and recognizable cigarette brand in the world and could be used by both companies to leverage their control of the e-cig market. With hundreds of e-cig products chasing a relatively small market in comparison with that of traditional tobacco, big tobacco companies like Altria and Philip Morris could easily become aggressive in trying to get e-cig sales, and their ownership of the Marlboro brand could give them the leverage they need.

Reduced risk
Altria is also set to benefit from Philip Morris' donation of 'reduced-risk' products to the company's arsenal of non-tobacco-based nicotine products for sale within the United States. Reduced-risk products are, according to Philip Morris, products that reduce the risk of tobacco-related illnesses. Altria already has several of these products in the market, such as the company's Verve chewable nicotine product and Denmark, a type of gum containing tobacco.

Meanwhile, Philip Morris is working on driving the sales of 'low-risk products' internationally. The company recently invested €500 million in a reduced-risk product-manufacturing facility in Italy, ahead of a full commercialization of one of its reduced-risk products in the second half of 2014. According to Philip Morris, once fully operational, the factory's annual production capacity is expected to reach up to 30 billion units by 2016.

Commenting on the development of reduced-risk products, Philip Morris' management said: "The development and commercialization of reduced-risk products...a potential paradigm shift for the industry, and an important growth opportunity for PMI ..."

Elsewhere
Not wishing to be left out in the cold, Reynolds American is also active in the non-tobacco nicotine sector. Reynolds' subsidiary, Niconovum USA, has entered its first lead market in the United States with Zonnic, a nicotine-replacement therapy gum, while another subsidiary, R.J. Reynolds Vapor, has introduced an electronic cigarette, Vuse, which has limited distribution.

Takeaway
So to sum up, it would appear that big tobacco is not about to roll over and accept declining cigarette sales. Indeed, Philip Morris and Altria are both worker together, branching out, and reducing their reliance on cigarettes and related tobacco products, while Reynolds American is going it alone but still making progress.

As these tobacco companies change with the times, shareholders can gain some confidence that the paradigm shift in the industry is likely to safeguard long-term returns from their investments in big tobacco. 

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Fool contributor Rupert Hargreaves owns shares of Altria Group. The Motley Fool owns shares of Philip Morris International. 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.

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