Competitive Environment Heats Up Tobacco

Factors include gas prices, channel shift, pricing programs, new products, says Wells Fargo

NEW YORK -- Almost 70% of the respondents to Wells Fargo Securities LLC quarterly survey of tobacco retailer and wholesaler contacts representing more than 30,000 U.S. convenience stores said that the competitive environment was more competitive during third-quarter 2012 versus second-quarter 2012.

It attributed this to higher gasoline prices, channel shift to the drug and dollar stores, manufacturer pricing programs and new-product introductions, said Bonnie Herzog, New York City-based managing director of beverage, tobacco and consumer research for Wells Fargo.

The survey showed that third-quarter reported cigarette volume growth will likely be above historical trends primarily due to inventory build ahead of several new-product introductions and other inventory fluctuations including deloading after the mid-June price increases and third-quarter 2011's industry shipment volume decline of 6.5%, "which provides [third-quarter 2012] with an easy comp," she said. "We expect reported industry volume to be down 2% (better than historical declines of about 3.5%)."

And despite the heightened competitive activity, most of Wells Fargo's contacts think another price increase is "imminent," with most foreseeing December timing, led by Philip Morris USA. "On average, our contacts estimate the cigarette list price increase will be around seven cents per pack. We continue to think the pricing environment remains rational, and we have already forecasted this increase in our estimates," she said.

Most of the contacts indicated low-single-digit Marlboro volume growth in third-quarter 2012, said the report. "Marlboro's reinvigorated brand architecture is yielding positive results," Herzog said. "We continue to see signs PM USA is innovating and achieving a better balance between growing Marlboro profitably and maintaining strong brand equity. Volume. trends are likely being aided by promos although buydowns decreased in some markets in September."

And 80% of Wells Fargo's contacts indicated that year-to-year Newport Menthol volume was flat to up slightly in third-quarter 2012, "a slight deceleration from [the second-quarter]. Our contacts also suggested that Newport Menthol promotional support has accelerated. While these trends are a departure from Newport Menthol's usual strong momentum, we believe long-term brand equity of Newport is among the strongest in the industry," said Herzog.

Most of the contacts indicated flat to up low-single-digit volume increase in Camel in the third quarter, aided by higher promos. Feedback indicated continued momentum in Camel Crush, the survey said, "but this may be offset by intensified promos from other brands causing what we believe to be a loss of share in Camel. Pall Mall year-to-year volume trends appear "somewhat sluggish" with year-to-year growth appearing "flattish."

Increasingly, retailers are embracing electronic cigarettes and allocating more space, which Herzog said "is not surprising given retailer gross margins on e-cigs are 25% higher than traditional cig margins."

She added, "We continue to expect consumption of e-cigs will surpass traditional cigs in the next decade."

Finally, the survey said that the smokeless category is still experiencing "robust" growth trends with Grizzly driving the bulk of growth. Promos have accelerated slightly, although reduced buydown rates on Copenhagen & Skoal started in September.