One of the major selling points for electronic cigarettes, or e-cigarettes, is that they are effective smoking-cessation devices. Altria Group (NYSE:MO), Reynolds American (NYSE:RAI), and Lorillard (UNKNOWN:LO.DL) have made bets that smokers will switch to e-cigarettes as a healthier alternative to traditional cigarettes. However, that thesis may have just gone up in smoke, as new research suggests that e-cigarettes are not an effective smoking-cessation device.
Questions about e-cigarettes' effectiveness
The study, published in JAMA Internal Medicine, followed a nationwide sample of 1,549 participants for one year. It discovered that e-cigarette use did not result in a change in cigarette consumption.
This is mixed news for the tobacco industry, which is threatened by the potential for e-cigarettes to become an effective substitute for traditional cigarettes. However, Altria, Reynolds, and Lorillard are also positioned to reap the majority of the benefits from the e-cigarette boom. Lorillard acquired e-cigarette leader Blu in 2012 for $135 millon; it now has a nearly 50% market share. Reynolds and Altria are also rolling out e-cigarette brands nationwide this year.
Big tobacco's move into the e-cigarette market is as much a defensive stance as an attempt to boost profitability. Respected tobacco analyst Bonnie Herzog predicts that U.S. e-cigarette consumption will surpass that of traditional cigarette consumption within the next 10 years. Since much of the growth in e-cigarettes comes at the expense of traditional cigarettes, tobacco companies are merely playing defense.
However, there is widespread fear among anti-tobacco activists that e-cigarettes could make smoking cool again and serve as a gateway to cigarettes. A study published in JAMA Pediatrics found that e-cigarettes contributed to teenage nicotine addiction. E-cigarettes, which come in flavors like cherry, strawberry, and cookies & cream, are less harsh than cigarettes, making it easier for adventurous teenagers to pick up the habit. Moreover, the study showed that current smokers who had never used e-cigarettes were more determined to quit than those who had used e-cigarettes. Although scientists are far from reaching a consensus on the issue, these findings could put a damper on e-cigarette growth.
The Food and Drug Administration has not yet released comprehensive guidelines for e-cigarette regulation, but many states and municipalities are already clamping down on the tobacco-free devices. Bills in New York, Oregon, New Jersey, Washington, and a number of other states have proposed taxing and regulating e-cigarettes like other tobacco products. High taxes, marketing restrictions, and public awareness about the health risks associated with smoking tobacco have led to a long-term secular decline in cigarette consumption in the U.S. The same factors could put a lid on e-cigarette growth.
What it means for tobacco companies
Altria has the most to lose from e-cigarette growth. It was the last of the big three U.S. tobacco companies to announce a nationwide rollout of its e-cigarette brand, and its 50% share of the U.S. cigarette market gives it a dominant share of the industry's profits. Stunted e-cigarette growth would reaffirm Altria's dominant position in the industry.
Reynolds is in the same boat as Altria. Its Vuse e-cigarette has yet to gain wide adoption, while its Camel and Pall Mall brands combine for a 17.8% share of the cigarette market. All of the company's brands combine for a 26% share of the cigarette market.
Lorillard, on the other hand, could stand to gain another revenue source. Its revenue is largely dependent on Newport menthol cigarettes; Newport (mentholated and non-mentholated) accounts for 85% of Lorillard's cigarette volume. Given pending legislative restrictions on menthol cigarettes, Lorillard's small-but-growing e-cigarette business is an important source of diversification.
Nobody knows how e-cigarettes will be regulated; the rules have yet to be drawn up. However, Altria and Reynolds would not mind it if e-cigarettes were lumped in with tobacco products; the two leading tobacco companies have a lot more to lose from e-cigarette growth than they could hope to gain. Lorillard, on the other hand, stands to gain a meaningful new source of revenue if it can maintain a dominant share of a growing e-cigarette market. It is too early to tell which way regulators will go, so tobacco-industry investors must accept a high degree of uncertainty for the time being.
Ted Cooper has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. 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.