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E-cig Industry Braces for Impending Regulation

By Rupert Hargreaves – Mar 1, 2014 at 7:00AM

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Altria Group, Reynolds American, and Lorillard are preparing for strict regulation of the US e-cig market by branching out.

Electronic cigarettes, or e-cigs, have been one of the most disruptive technologies to hit the tobacco sector in recent years. The market for them has grown rapidly, and many smokers are now switching to the e-cig over traditional, more harmful cigarettes. This rise to fame within the smoking community has sent tobacco players such as Altria Group (MO 1.17%)Reynolds American (RAI), and Lorillard (LO.DL) into a sort of e-cig arms race.

E-cigs are, for the most part, unregulated, allowing companies to aggressively market them and claim that e-cigs are relatively safe. This approach can't be used with conventional cigarettes. However, opposition to e-cigs is building, and an unlikely backer is funding the move against these reduced-risk products.

Foul play 
The force working against the introduction of e-cigs is big pharma. Now, this will come as no surprise to some: big pharma profits from treating disease, including diseases stemming from smoking; if there is less disease to treat, then their profits will fall, which is bad news for shareholders.

In addition, big pharma is highly active in the nicotine-replacement therapy, or NRT, market. NRT includes such items as nicotine gum, lozenges, and patches, and GlaxoSmithKline (GSK -2.38%) is the leading marketer of these products within the United States. Obviously, if smokers who are in the process of quitting turn to e-cigs rather than NRT, Glaxo will lose revenue.

Unfortunately, it would also seem as if Glaxo has support from the U.S. Food and Drug Administration; in particular, Mitch Zeller, a former anti-tobacco lobbyist who was appointed head of the FDA's center for tobacco products earlier this year. Now, Zeller should not be taking sides in this argument, but according to an article published in The Wall Street Journal back in 2009, Zeller disclosed that he: 

...provides consulting support to GlaxoSmithKline consumer health through Pinney Associates on an exclusive basis on issues related to tobacco dependence treatment.

This pharmaceutical consultancy has regulatory authority over competing products, including e-cigs.

Thought of as a good thing 
On the other hand, there is an enormous amount of support for e-cigs. Throughout November and December, more than 35 organizations, including public health advocates, lawyers, and physician groups, petitioned the Washington, D.C.'s Office of Management and Budget to stop a rule which would bring e-cigs under control of the FDA (this rule was proposed by the FDA).

If e-cigs were brought under the control of the FDA, the administration could potentially require companies to register and pay fees, list the ingredients in their products, obtain prior approval for new products, and restrict online sales and marketing to children.

The OMB has not had a meeting over the matter since Jan. 17, so it is likely that an outcome is due to occur in the near future.

Future under threat
Obviously, this threat from the FDA is a huge risk to the young e-cig market within the US; therefore, Lorillard and Altria have made moves to diversify while the going is good.

Specifically, Altria recently purchased Green Smoke, an international e-cig company with a distribution network and sales in the US and Israel. Meanwhile, Lorillard has acquired a British e-cig developer, although this does mean the company will have to compete with tobacco industry behemoth British American Tobacco, which has launched its first e-cig product in its home market.

In addition, Altria and Reynolds have made inroads to the NRT market within the US, both offering types of tobacco gum and Reynolds has several smokeless snuff offerings, which are still registering strong demand. This is nothing new; it just helps set the company apart from its peers.

As a result, all will not be lost for these companies if the FDA moves against them. Smaller e-cig companies, however, are likely to be snuffed out overnight, as the regulations benefit the industry's larger players.

Foolish summary 
All in all, the new e-cig industry is rife with speculation and foul play. With politicians, regulators, and pharmaceutical companies all attacking the industry, which is in its infancy, things could be about to get very messy.

Still, Lorillard, Reynolds, and Altria appear to be well positioned to ride out this volatility. These tobacco behemoths are sharing technology, and any e-cig revenue is only likely to make up a small percentage of their overall income, so any regulation is unlikely to significantly impact their bottom lines.

Rupert Hargreaves owns shares of Altria Group. The Motley Fool has no position in any of the stocks mentioned. 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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