After the Bell: The weird economics of smoking
There are now basically three global cigarette companies whose market share has remained roughly the same because, without being able to advertise, they can’t really compete. And neither can a newcomer access the market.
I once had a journalist colleague, Patrick Cull, with whom I shared an office in Parliament. Patrick, who was enormously funny and a great joy to have as an office mate, wrote for the Gqeberha daily newspaper, The Herald. For several consecutive years, one of our jobs would be to cover the national Budget.
The Budget, of course, is an enormously complex document, filled with data and predictions, and it was then, and remains, an important indicator of government policy. We would debate at length the appropriate way to condense and encapsulate all this complex data, but Patrick, in his way, would typically resolve it to the following phraseology: “It was another beer and bakkie Budget.”
He was referring, of course, to the one aspect of the Budget that could be gratifyingly predicted year after year: that government excise taxes on alcohol and cigarettes would be increased.
This trend of increases in the tobacco excise tax is an international phenomenon and is part of a global effort to reduce the consumption of cigarettes. And it has been, until recently, a largely successful exercise. In 2021, the World Health Organization (WHO) estimated that the prevalence of smoking declined from 27% of the global population in the year 2000 to 19% in 2020.
Men are massively more likely to smoke, and by 2025, the WHO estimates that only 4% of women globally will smoke. And the effort has clearly saved lives, but still in 2019, more than 8 million people died from a tobacco-related disease, the WHO says.
The effort has been achieved internationally through two main drivers: a reduction in the legality of tobacco advertising and big increases in the tax on cigarettes. Patrick’s “beer and bakkie Budget” could have applied to almost any country in the world.
So, given this decline, tobacco companies are seriously in the dwang, right? Not so much. Amazingly, as often happens with well-intentioned government efforts to help people, the actual outcome is different from what was planned. Just to take one example, the revenue of British American Tobacco (BAT) — one of the world’s largest tobacco companies — was, in 2001, about £11.3-billion and profit was about £1.2-billion. Last year, it was £26.4-billion, and the company earned £5.6-billion, after tax.
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How is that possible? For a start, with a profitability level like that, you might expect customers to be addicted to your product. Oh, yes. They are. But that kind of level of profitability also suggests a monopoly. Oh, yes, they practically are.
What has happened is actually pretty simple: clamping down on the industry has had the effect of preventing competitive rivals from entering it. There are now basically three global cigarette companies whose market share has remained roughly the same because without being able to advertise, they can’t really compete. And neither can a newcomer access the market. Of course, all of this has been slightly affected by vaping, and BAT’s financials have been concomitantly a bit weaker over the past two years.
But generally, the problem is that despite the decline in the number of smokers, despite the huge increase in the costs of cigarettes (it now costs about R250 for a pack of 20 in Europe), many people still smoke. About 20% of the global population still lights up and the WHO estimates that SA is exactly at the global rate. This is actually less than the US and much of Europe, which has a general prevalence rate of about 25%.
In SA, some fascinating research has been done over the years by the Economics of Excisable Products Research Unit at the University of Cape Town, led by Professor Corné van Walbeek. At the risk of bastardisation through absurd abbreviation, the unit’s research has shown that what matters is price; advertising restrictions are less important, if at all.
The unit recently conducted a study of whether the recent Covid restriction-related ban on the sale of cigarettes reduced the number of smokers in SA. I don’t want to shock you, but without revealing too many secrets, I can tell you it didn’t. What the ban did do was strengthen the hands of the illicit market, the research found, kinda unsurprisingly.
One of the reasons is that the illicit market is now the dominant force in the SA market and probably sells around half the cigarettes smoked in the country. It almost goes without saying that the advent of this unlawful industry is a measure of the deep, entrenched criminalisation of SA’s society.
So into this morass, the ANC has now thrown a legislative incendiary device. Motivated, I suspect, as always, in the background by SA’s Mother Grundy of legislative intervention, Nkosazana Dlamini Zuma. The new Tobacco Products and Electronic Delivery Systems Control Bill places further restrictions on advertising, even though the previous ones didn’t work, fixes its beady eye on vaping, even though the science on its health effects is still not clear, and generally tries to make it more difficult to smoke. Smoking in a car in the presence of a non-smoker now could get you three months in jail. I am not making this up.
Perusing this legislation is slightly akin to reading Alice’s Adventures in Wonderland. SA can’t effectively police murder, but now it is going to arrest people for smoking in their cars. What version of reality are we talking about here? As talk show host Conan O’Brien once quipped: “When all else fails, there’s always delusion.”
What about from an investment point of view? In the face of this anti-smoking and anti-vaping legislation, should you dump your BAT shares, assuming you have them? One doesn’t want to jump to conclusions, but my guess is your investment is very unlikely to go up in smoke. DM/BM