How to Invest in the Global Tobacco Industry

Investing in a Controversial and Compelling Industry

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The global tobacco industry generated $744 billion in revenue during 2014, according to Euromonitor International, with over 5.6 trillion units sold to over a billion smokers. Between 2000 and 2014, global cigarette volumes increased by 8% and retail values increased by 121%. Analysts expect to see a further 0.9% growth in cigarette volume and a 29% increase in retail value over the next five years as emerging market consumption continues to rise.

In this article, we will look at the global tobacco industry and whether or not international investors should consider it.

Market Dynamics

The tobacco industry has been contracting in many developed countries as governments impose onerous taxes and public education campaigns gain traction. In contrast, many frontier and emerging markets have experienced significant increases in the number of tobacco users due to the lack of high taxes and public awareness of the health risks. More than 80% of the world’s smokers now live in low- and middle-income countries.

The Asia-Pacific region has become the single largest consumer of tobacco, accounting for approximately 65% of the market in 2014. In fact, China National Tobacco Corporation – which is owned and operated by the Chinese government – is the single largest producer of cigarettes with approximately 44% of the global market. The state-owned enterprise sells just 1% of these cigarettes abroad, which illustrates just how big China’s market is alone.

Popular Companies

China National Tobacco Corporation is the largest producer of cigarettes in the world, but the company remains off-limits to most investors.

The second largest company in the space is Philip Morris International Inc. (NYSE: PMI), which is a publicly-traded American company with its headquarters in Switzerland.

With a 15% share of the global tobacco industry, it’s easily the most profitable tobacco company in the world after its separation from Altria Group (NYSE: MO) in 2008. PMI exclusively sells its products outside of the U.S., which also makes it a pure-play for international investors.

Britain houses the next two largest international tobacco companies, which are British American Tobacco (NYSE: BTI) and Imperial Tobacco Group (Private). British American Tobacco controls about 11% of the global cigarette industry, while Imperial Tobacco Group controls roughly 5% of the market. These groups are primarily targeting growth opportunities in Asia and Africa given the slowdown in developed markets like Britain.

Finally, Japan Tobacco (OTC: JAPAF) is another large player in the global tobacco industry with a 9% share of the market, although a third of the company is controlled by the Japanese government. Unlike other companies in the space, many of the firm’s products can be found in the U.S. and developed markets, including Winston, Mild Seven, and Camel brands of cigarettes, as only a fraction of revenue comes from emerging markets.

Important Risks

The tobacco industry has a number of unique risks given the nature of its products.

Of course, regulatory risks are the largest risk factor, as demonstrated by the United States’ government’s actions taken on domestic tobacco companies. As the adverse health effects begin to manifest in Asia’s young population, it’s likely that governments will increasingly look to regulate the sale of tobacco through public awareness and increased taxes.

In the past, the tobacco industry has responded to the slowdown by raising prices since its pricing is highly elastic due to the addictive nature of its products. These dynamics explain why unit volumes are expected to grow less than 1% at the same time that profits are expected to expand by nearly 30% over the next five years. While the long-term trends are clear, the short-term could still be very lucrative for investors.

The Bottom Line

The global tobacco industry sold more than five trillion units during 2014 alone, as frontier and emerging markets continue to see greater demand.

International investors have many opportunities to invest in the industry, with many American Depositary Receipts (ADRs) trading on national exchanges like the NYSE rather than over-the-counter (OTC). While there are many risks facing the industry, it may still be lucrative given the industry’s pricing power.