Throngs of e-cigarette makerstouting liquids, cartridgesand nicotine levels fromnil to thrill. Flavored-cigar hawkers promoting the latest flavors, RYO specialists trumpeting new packaging, moist-smokeless producers showcasing new foil and tins, cigarette leaders broadcasting new products and programs. Four hundred booths. Close to 1,000 convenience-store and tobacco-shop operators representing more than 100,000 stores.
Welcome to Vegas and the 12th annual NATO Show.
Held at the Paris Las Vegas Hotel &Casino, the event hosted by the National Association of Tobacco Outlets highlighted a tobacco industry in dramatic transition, from a theme once dominated by cigarettes and cigars to a new generation of oral, smoke-free products and the ever-rising, combustion-free electronic cigarettes.
“This is not my father’s tobacco industry, “one younger retailer said, exhaling an e-cig’s tobacco-free vapor. Another operator, enjoying a fresh cigar puff on the show floor, chuckled and said, “Funny how it wasn’t long ago that we could do this in our stores and in our jobs. Thank God for Vegas.”
The NATO Show featured extraordinary networking; key legislative updates on the local and national fronts; in-depth educational seminars from some of the industry’s top leaders; and a new charity event that evoked tears from the most seasoned of participants.
Several dozen attendees and event organizers spent a day volunteering at Las Vegas Rescue Missions, a 43-year-old outreach for the hungry and homeless. In addition to volunteering at the shelter/soup kitchen, NATO members raised more than $4,000 for the charity.
“If that doesn’t touch your heart,” said NATO president Andy Kerstein, “I don’t know what will.”
We agree.
Enjoy the next several pages as we take you on our three-day journey through the industry’s premier tobacco event.
FDA Opens to E-Cigs
A glut of e-cigarette makers touting cartridges, liquids, nicotine levels and flavors dominated The NATO Show floor for the second consecutive year.
Yet an education session at the same event hinted at both opportunity and culling.
With more than 200 e-cig makers flooding a market requiring some order and structure, the FDA’s newly appointed director of the Center for Tobacco Products(CTP) seemed open to stepping in.
“Products like e-cigarettes are very interesting,” said Mitch Zeller, who earlier this year replaced Lawrence Deyton asCTP’s second director in the group’s four year history. “You can look at them in the abstract from a harm perspective and say: If it’s not tobacco, if it’s not combusting, then does it make sense to look at it as something that might be potentially much less harmful than any combustible tobacco product that’s out there?”
To date, e-cigs are completely unregulated. They may be marketed through channels such as TV, newspapers and consumer magazines. There are no restrictions capping nicotine levels or limitations on flavor. While that sense of freedom sounds appealing, it is also causing confusion among retailers trying to discern one brand from another.
Concurrently, many of the leading e-cig brands such as NJOY and Lorillard(maker of blu) are hoping the FDA will not only assume jurisdiction of electronic cigarettes but also regulate it as modify end-risk products—a designation suggesting less harm than cigarettes.
Zeller appeared on a panel with colleague Ann Simoneau, director of CTP’soffice of Compliance and Enforcement;NATO president and executive director Thomas Briant; and Smoker Friendly’s vice president of marketing, Mary Szarmach. The panel was moderated by Jim Bursch, senior vice president, group publisher and editorial director of CSPBusiness Media, the show’s exclusive media partner.
The FDA wouldn’t regulate electronic cigarettes based on abstract potential of the products, Zeller said, but on how consumers are actually using them and the public health implications of such usage. “Any of the newer products that in the abstract might pose less risk all comes down to how the product is being used,” he said. “Who is using the product? What is the impact on initiation? What is the impact on cessation?”
For example, if smokers are merely using electronic cigarettes as a nicotine substitute in situations in which smoking bans prevent them from lighting up a traditional cigarette, e-cigarettes would not actually be improving public health.
“These are complicated questions of behavior, complicated questions of public health, and e-cigarettes raise all of these questions,” he said. Ultimately, Eller believes that tobacco retailers could provide invaluable insight into clarifying these questions.
Greater Transparency
If there was a message Zeller sought to communicate to the audience of hundreds of c-store and tobacco shop operators during “The FDA’s Vantage Point and NATO’s Viewpoint” general session, it was this: We want your feedback.
“We understand that we have an obligation to be as clear and transparent with you as possible,” he said. “When we are told there are things we can be doing better, when we’re told there are ways we can be even more clear and transparent, we have to do that. We take that feedback seriously.
“There will always be issues that we’ll just have to agree to disagree on, “he continued. “But that doesn’t mean there can’t be a full and open dialogue.”
Briant echoed Zeller’s emphasis on communication: “If there’s one thing I come away with from the FDA, it’s that they want to hear from the industry because they’re regulating the industry.”
“[NATO] has established a very good working relationship with the FDA: If we want to talk with them, they respond to us; if we want to meet with them, they’re there. We have a seat at the tableland that’s very important.”
That interaction can come in the form of in-person meetings, FDAhosted webinars and—perhaps most important—NATO’s process of collecting retailers’ comments on proposed FDA regulations and submitting those comments to the agency.
Zeller said such comments are integral to the agency’s ability to do its job, and that Congress set up the process so that interested parties could participate and share their views.
“Some would describe [the rulemaking process] as being a participatory sport, not a spectator sport,” he said. “If you have a point of view, it is extremely important for you to participate in thievery public process. If you have a point of view and it’s not submitted to the official docket that we create, legally, we’re not obligated to consider it. If you submit it, legally, we are. We consider all of that when we transition from a proposed rule to considering what—if any—changes should be made to that proposed rule.”
Briant agreed. “The regulatory process is just that: It’s an ongoing process, “he said. “We submit our comments, we give our input and, though we may not always agree with the FDA, we know they’re listening.”
The panel proceeded to discuss how NATO and the FDA have communicated—or could better communicate—on a variety of tobacco-related topics, including:
Menthol, Deeming, and Substantial Equivalent Regulations: “You don’t actually expect me to make an announcement on menthol today, do you?” Zeller joked when asked about the agency’s intentions for the popular segment.“All I can say is when I started, there were a series of very critical, urgent issues, and menthol was one of them,” he said. “The first four to five weeks of my return to the FDA were fully occupied by dealing with menthol, deeming [regulations]and substantial equivalency. There’s nothing I can say publicly about any of those topics.”Zeller did say the FDA was close to being able to announce its plans for menthol, deeming and substantial equivalents, pointing out that he understands that clarity on these topics is very important to retailers and manufacturers alike.
“As we begin to rule on what is the substantial equivalent, what isn’t the substantial equivalent, there will be allot more clarity and transparency to the process,” he said. “Menthol and deeming—when we eventually announce what we’re going to do—will be more straightforward because it’s more policy-focused than individual applications, like with substantial equivalents.”
Retail Compliance Inspections:“When it comes to keeping tobacco out of the hands of kids, this is an objective I know we share with all of you,” Zellers aid. “You all are the front line of this. Our job is to make the rules of the road as clear as possible for you and your clerks.”
As such, the FDA and NATO will continue to talk about the FDA’s retail compliance checks that, in part, ensure retailers are not selling tobacco to minors. The checks are working: Nearly 96% of retailers have passed inspection in the 2½ years since the FDA’s began conducting these checks, Briant said.
The other good news—a reflection of improved communications between FDA and NATO—is that retailers hit with a violation receive an “initial notification” within one week of the inspections a prelude to an official warning letter. Operators had been critical that notification of offense often arrived months after the alleged violation, making it difficult for shop owners to track down the shift and time of incident.
Despite improvement, some retailers called on the FDA to be consistent—tissue a letter of passing a compliance check, just as it would dispatch a notify -action of violations.
The problem, as the program operates, is that retailers who pass often have no idea an inspection even took place, said Szarmach, unless they happen to check the FDA’s website on a regular basis. Szarmach suggested that perhaps FDA inspectors could simply leave a card after the inspection has been completed—not indicating whether or not any violations were found, just that an inspection had taken place so the retailer would know to check for results.
“All of us as retailers would like the opportunity to congratulate our store personnel when they do it right and make good example of them,” said Szarmach.
While it may not seem like a difficult task, Simoneau pointed out that the FDA already releases a significant amount of information about tobacco inspections.
“For the first time, the FDA is posting inspection results when we go into a facility and no violations are found,” said Simoneau. “You don’t see that in any of the other sectors; this is unique to tobacco.”
‘A Bit Apocalyptic’
Political commentator Dick Morris predicts freefall for U.S. economy
A house of cards. Fiscal Armageddon. Economic apocalypse. Dick Morris, political prognosticator and former Bill Clinton insider turned Republican commentator, lashed out at America’s fiscal policies and Federal Reserve chairman Ben Bernanke’s oversight of our nation’s monetary policy, one that Morris sees as adrift and without anchors.
“My prediction for the American economy is, I fear, a bit apocalyptic,” he said in the closing session at The NAT Show. “Then again, I’m the one who predicted Romney would win in a landslide.”
Let’s hope Morris’ fiscal forecasts areas wrong as his GOP-landslide prediction of last fall.
Morris’ presentation on today’s domestic and global economic woes neatly tied to the moment in which a national depression was averted thanks to President Theodore Roosevelt and banker J.P. Morgan and the subsequent shock that gave rise to a Federal Reserve Bank, because not one man—not even Morgan himself—could single-handedly restore order amidst economic chaos.
Fundamentally, Morris said, today’s global economy is a “house of cards, literally held up by myth and bluff and propaganda and hope and prayer. But that will [at some point] come crashing down.”
The problem is that today’s reserve continues to print more money but lacks the backing to anchor it in consumer confidence. “We are literally printing the money, giving it to the banks for free, then borrowing it back to pay for the deficit,” he said.
Global derivatives now stand at $1.6 quadrillion, with few regulations to govern it. “All you need is a spark to have it all crashing down,” Morris warned. And the Dodd-Frank regulations aimed at preventing the missteps that fueled the country’s current languishing economy failed to take punitive action against the big banks.
“They did not rein in the big banks,” Morris said. “There was no prosecution of the rampant malfeasance that took place in 2006, ’07, ’08 and ’09.
“The only way they can make the economy work is to hype it, to inflate it,” he said. “Is there a day of reckoning[waiting to happen]? You bet there island if I sound like the Occupied Wall Street demonstrators, I do.”
‘Crashing Down’
Morris raced through key cracks in the current system. He addressed the financial meltdown in Cyprus and Greece, the failure of TARP stimulus to truly pivot the economy out of its slumber. He spoke of ballooning national and global deficits. And he talked about the paltry interest rates, which, on the surface, could spur investment; however, at the same time they are leaving the elderly on fixed incomes in desperate straits.
So is Morris a Cassandra or a prophet? Should the U.S. return to the gold standard, nixed in 1973 by President Nixon? Can an economic fix be found in time to right these massive wrongs?
“It’s not the fault of any one president or any one administration. But it was horribly exacerbated by this president and [Bernanke],” he said. And don’t expect a fractured Congress to save the day. Neither side, Morris acknowledged, is addressing the measures necessary to stabilize our nation’s course. The country’s economic demise is no longer a matter of “if” but of “when,” he said: “This is going to be crashing down. It just cannot be sustained. The law of gravity cannot be repealed.”
Fad No More
Retailers see e-cigs achieving mainstream status, with robust trajectory
“It’s a little bit like the wild, wild West,” said Michael Shannon,Lorillard Inc.’s vice president of external affairs. “It’s been very exciting and, as they say in politics and policy, it’s evolving.”
“It” is electronic cigarettes. And for Shannon, a policy specialist for the country’s third-largest cigarette maker, with Newport as its beacon, e-cigs are creating a fresh landscape.
It was a year ago that Greensboro, N.C.-based Lorillard repositioned electronic cigarettes from a thrilling fad to a credible trend. It was then, at the 2012 NATO Show, that word emerged of Lorillard’s acquisition of blu e-cigs. Andin the 12 months since, the soaring e-cig sector has seen sales surge to more than $1 billion, according to some estimates, with anywhere from 200 to 300 manufacturers getting for brick-and-mortar and online space.
“Is it a fad? Is it going to be around?”Shannon asked rhetorically. “We believe-cigarettes are here to stay.”
Shannon spoke at the 2013 NATOShow, joined by Rick Staley, merchandising manager for 75-store Tri Star Energy LLC, based in Nashville, Tenn. Their session was titled “Demystifying Electronic Cigarettes,” and they tackled numerous concerns, including:
- How they classify e-cigs within the total tobacco set;
- What role they believe FDA will take;
- Whether e-cigs are a tobacco cessation product or a less-harmful extension of cigarettes; and
- How many brands and SKUs retailer should carry to be considered invested in the e-cigs segment.
Shannon, for his part, considers e-cigs a harm-reduction production, not one that boasts therapeutic solutions to tobacco addictions, but rather an entity that is meant for recreational purposes and is clearly less dangerous than tobacco-based products.“There is an advantage of taking people from a more risky product down the ladder to less risky [products],” Shannon said. And to that end, he was encouraged to hear Mitch Zeller, new head of the FDA’s Center for Tobacco Products, express “interest” in e-cigs during an earlier session at The NATO Show.
“Everyone has acknowledged that cigarettes are the most harmful because of the combustion,” Shannon said. E-cigs, on the other hand, may look like cigarettes and distribute vapors but are free of the most harmful components found in cigarettes.
A Line Extension?
As for Tri Star, Staley said the company continues to ramp up its e-cigarette set and is expanding its space at the expense of some single cigars.“Right now we treat it as its own category, “he said. “But in the future, we see it as a line extension of cigarettes.”That positioning may be somewhat controversial over time, according to suppliers and operators, as the industry lobbies the FDA on the point that e-cigarettes are far safer than cigarettes and not a gateway to lure e-cig users tactual cigarettes.
That said, Staley, like other operators, acknowledges the company is still assessing e-cigarettes’ long-term positioning and placement. Today, Tri Star offers a three-tier pricing scheme, with blasts premium brand retailing at $9.99, the regional Clayton e-cig at $7.99 and a third line at $5.99.
“We definitely want to make a stand, “Staley said in underscoring the company’s investment in e-cigs. He expects the Daily’s and Twice Daily stores to eventually carry as many as five or six brands and 20 to 30 SKUs of e-cigarettes.
Also, Staley pointed out that e-cigs are actually growing total tobacco revenue, as opposed to cannibalizing from other segments.
“This is a new customer coming in[to our stores],” he said. Tri Star’s leading e-cig demographic is the 18- to 24-year old male, followed by the 25- to 34-year old male.
Some vendors privately shared that their data also shows a high percentage of older, traditional cigarette smokers testing electronic cigarettes.
Channel and Category Blending
Important considerations for building a profitable OTP set
Cigarettes—once perhaps the single most important category in the c-store—are on the decline; OTP—once an afterthought—is on the rise. While not news, this shift means that c-store tobacco sets are more reflective of the type of variety once only found in a tobacco shop, meaning tobacco shops must strive to be more convenient to compete with the channel.
It’s a topic that was discussed in the “Channel Blending: Convenience & the Tobacco Outlet” session, moderated by John Mayer, product director for Temple, Texas-based McLane Co.
“Shoppers demand convenience, and convenience can sometimes break with tradition,” said Mayer. “We all know that cigarettes are decreasing and that OTP is increasing; the question is what blend of products to carry.”
The right product mix is extremely important, especially to the c-store market, which relies heavily on customers seeking such products. “The OTP and cigarette shopper is one of the most important shoppers to go into a convenience store,” Mayer said. “Data shows cigarette consumers visit a c-store an average of 11.5 times a month, and 11.1times a month for OTP consumers.”
Joining Mayer in the session were Darren Collett, a tobacco store retailer and president of Seymour, Ind.-based Collett Enterprises; John Zikias of Holmes OilCo., Chapel Hill, N.C.; and Steve Sandman, president of North America for Glenview, Ill.-based Republic Tobacco Co.
With blending occurring between the c-store channel and tobacco shops, Mayer asked, “How does any retailer differentiate itself from all the competition?”
For Collett, it’s not about differentiating his stores, but establishing what customers can expect from his locations.“We’ve taken the stance that we’re going to be the tobacconist in any of our communities, “he said. The number of retail tobacco shops has increased by an impressive 41% since 2001, according to Mayer. Collett believes this growth could be a response to regulation.“With any challenge comes opportunity, “said Collett. “As more regulations are enacted, the more tobacco consumers are looking for a ‘safe haven.’ I think that’s responsible for tobacco store growth.”
The fact that tobacco is the sole focus of his stores has also helped Collett be able to offer what many c-stores cannot: unlimited space for tobacco products, and educated employees. “You can bring the products in, but if you don’t take the time to train your associates, it won’t take off,” Collett said.
Adult Education
As a c-store retailer, Zikias agreed that it’s more difficult for the channel to properly educate its store associates on new tobacco products. While it may not be possible to train staff on every new product on the back bar, Zikias believes it’s absolutely crucial they are properly trained when entering a new tobacco category.“If you’re going to get into a category, be the grizzly, not a little cub,” Zikias said of properly bringing a new segment into stores. “You have to make sure your team understands the category. ... Otherwise it’s just inventory on a shelf.”
Even if a retailer can get all the staff up to speed on new categories and products, with a limited amount of space on the back bar and more tobacco products entering the market, it’s increasingly difficult to decipher the right product mix to carry, which may not be the same at all locations.
“What OTP mix to carry varies by market, especially with Big Tobacco getting into OTP,” said Sandman. “It’s important to get out into the retail environment and look at what the competition is doing.”
It’s something Sandman says manufacturers can help with, describing how he has done ride-along with various retailers to offer input on their OTP sets. Having spent his entire career in the tobacco industry, Sandman can provide valuable insights. “The key is a logical progression in evaluating what your total tobacco category looks like,” he said. “Nicotine consumption is the same as it was 40 years ago; that nicotine user has progressed (from cigarettes). If you’re not in a given category, why not look at your (back bar) space and have it reflect the changing consumer?”
The advice Collett had on selecting the right product mix was simple: Look at the data. “Stay focused on the growth categories, “he said. “If you’re carrying the top products in any given category, you’re going to satisfy 95% of consumers.”
For Tobacco Regulations, Check Your Hometown
A slew of proposed tobacco restrictions are crossing the country at a feverish pace. Dozens of proposed ordinances—from banning tobacco displays in New York to banning the sale of electronic cigarettes in remote Rock County, Minn. —are under consideration throughout local townships, small cities, counties and states as governments of all sizes struggle to plug budget shortfalls.
“There is a general lack of awareness on the part of our folks about the potential impact local regulations can have on our industry,” said veteran NATO legislative consultant Tim McKinney.
McKinney was joined by Jacqueline Cohen, president of Washington, D.C.-based consulting firm GO Squared, which the trade association contracts to track state and federal legislation and regulation.
In their session, McKinney and Cohen exhorted operators to take an active role in educating local and state lawmakers about the harm further tobacco restrictions could bring to businesses. McKinney outlined the range of proposals being considered in various communities: raising the minimum legal age from 18 to 19 or even 21; requiring packs to be a minimum of four cigars, thereby eliminating many popular flavored lines sold in singles or smaller packages; and state measures(notably Oregon) that would empower counties to impose new tobacco taxes.
“Local governments are strapped for cash, so what’s the easiest way to fix that?” McKinney asked rhetorically.
The federal government isn’t much better. Ironically, Cohen said, today’s hyper partisanship may indirectly benefit tobacco operators. “As we know, Washingtonis totally dysfunctional,” she said, “and it’s probably a good thing that nothing is going on.”
She cited President Obama’s recent proposal to increase the Federal Excise Tax across tobacco segments, saying that it is but one of many proposals in the president’s budget that still must work its way through both the Senate and the Republican-controlled House.
That said, Cohen urged retailers to engage their local legislative bodies. Quoting President Lyndon Johnson, a master of inside politics and deal making, Cohen said, “The best time to make friends is before you need them.”
Pricing to Offset Decreasing Volumes: Herzog
Price increase: It’s a phrase few retailers want to hear when it comes to cigarettes, especially with the Obama administration proposing a 94-cent increase to the Federal Excise Tax in his most recent budget.
As managing director of tobacco and consumer research for New York-based Wells Fargo, Bonnie Herzog sees modest price increases differently.
“Pricing power has been critical and key to this industry,” she said during her “Tobacco Trends and Insights” session.“In terms of the bottom line, one point of pricing offers three times the leverage compared to one point of volume.”
Yes, cigarette sales are declining—but more than 20% of the population still smokes and, most likely, modest increases will not deter the majority of them, she said.
“Mid-single-digit price increases more than offset cigarette volume declines, driving top-line growth and higher margins for some,” said Herzog.
She anticipates that these kinds of price increases will continue to occur in 2013 based on recent earnings calls by major tobacco companies. At the time of the session, Lorillard and Reynolds had released their first-quarter 2013 earnings, with Altria soon to follow.
“I’ve predicted that pricing will accelerate by 4 points this year,” she said.
The year 2015 presents an interesting opportunity for tobacco manufacturers, shareholders and retailers alike: The fourth quarter of 2014 marks the end of the Federal Tobacco Buyout Fee (also known as the Tobacco Transition Payment Program).
“This 10-year, $10.1 billion program costs approximately 6 cents per pack,” Herzog said. “This should result in significant upside potential to operating margins and earnings growth in 2015 for all three of the leading tobacco manufacturers in the U.S.
“Therefore, in just a few years, we anticipate that tobacco operating margins will be re-based upwards by approximately 250 to 300 basis points, “she continued.
Herzog said manufacturers likely won’t use the savings to lower cigarette prices that consumers have already become accustomed to. Some possibilities on how the funds could be used: funding internal growth initiatives, offsetting potential tax increases, funding higher promos to drive volume, stepping up share buyback programs, acquiring or investing in a growth business and/or increasing dividend payouts.
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