Lorillard (NYSE:LO) is possibly one of the riskiest investments in the S&P 500 right now as the company's long-term future is almost impossible to predict. On one hand, Lorillard's growth is impressive, the company's dividend yield is attractive, and the company has a multi-billion dollar stock buyback plan in place.
On the other hand, Lorillard's future rests in the hands of the FDA as they consider regulation, or even outright prohibition, of menthol-flavored cigarettes. If the FDA regulates menthols, Lorillard could disappear literally overnight as, according to Citi analyst Vivien Azer, about 90% of Lorillard's sales volume comes from menthol cigarettes.
Altria Group (NYSE:MO) and Reynolds American (NYSE:RAI) are less exposed to the threat of menthol regulation, although they still stand to lose out if the FDA clamps down. Altria sells menthol versions of Marlboro, and Reynolds' menthol offerings are Camel, Kool, and Salem. Altria's menthol Marlboro's account for around 20% of total company sales, and Reynolds' menthol brands make up 30% of the company's overall sales.
Will the FDA make a move?
Still, the biggest question of all is will the FDA actually make such a drastic decision as to ban menthol?
Indeed, there has been much speculation on the matter recently, and Lorillard's president and CEO, Murray S. Kessler, recently spoke on the matter stating that: "Regulations must be grounded in both science and the law, otherwise we simply slip back to courtroom battles and miss the opportunity to make significant change...We believe it imperative to get each issue right, by making sure each is judged solely and independently by sound, regulatory science."
It would seem as if the FDA agrees with Kessler, although the agency would never admit it. Mitch Zeller, director of the FDA's Center for Tobacco Products, stated last year that, "The FDA can only go as far as the regulatory science will take us, and the bottom line is we need more information."
Now the FDA is in what has been described as "information seeking mode," and has formed an advisory committee to study menthol and put together a preliminary scientific evaluation. These studies include several long-term studies that will take years to complete, so investors could find themselves waiting for results for some time.
Nevertheless, while tests are under way, the FDA opened up the debate for public comment, receiving up to 200,000 comments on the issue; the FDA is legally required to consider and respond to all of them.
Tricky ground to navigate
Unfortunately, the menthol debate has stirred up racial controversy as well. In particular, as non-menthol cigarette use across the country sharply declined between 2002 and 2010, menthol cigarette use among African-American smokers has jumped from 69% to 85%.
Around three times more black smokers use menthols than white smokers, and many believe that the tobacco companies are targeting African Americans. Now, some believe that if menthols are not banned, it could give off a message that, according to the Citizens' Commission to Protect the Truth: "The lives and health of black youngsters and the black community are less important than those of white youngsters...If this was something in the white community, our impression is you wouldn't take 10 seconds to pass legislation banning that."
All in all, this is making the menthol debate extremely complicated. However, there is also a significant amount of opposition against the proposed regulation of menthol.
On the other side of the fence
Every debate always has two sides, and in this case, the argument to keep menthol products legal is supported by law enforcement agencies, which are concerned that a ban on menthol cigarettes could lead to a rise in organized crime and black-market activity.
Previously, similar claims by big tobacco have been rejected by the FDA as ploys and scare tactics to limit regulation. However, these new remarks came from Paul Carey III, chief of enforcement for the Northern Virginia Cigarette Tax Board, and others, such as a former supervisory U.S. Marshal from North Carolina, the 1,000-member Alabama State Troopers Association, and former director of the North Carolina Alcohol Law Enforcement Agency Michael Robertson, according to CNBC.
All of this makes me think that the FDA might start taking these comments seriously. Remarks from law enforcement agencies all suggest that cigarette smuggling is an ongoing problem, and the practice is linked to violent crime. Comments like these could make the FDA reconsider regulation.
This makes me think that a complete ban on menthol products may not come into force.
Rupert Hargreaves owns shares of Altria Group. 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.
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