“I’m excited to gather with my fellow tobacco nerds,” quipped one retailer attending CSP’s 10th annual Tobacco Category Review Meeting. “My counterparts don’t always get the world we’re dealing with.”
Truly, no category except perhaps fuel offers retailers the most potential sales while also boasting the regulatory, taxation and squeezed-margin minefield that goes along with it. Indeed, even after giving a detailed presentation about local regulatory issues, NATO executive director Thomas Briant had to cut into another speaker’s session with the news that New York City had just announced intentions to try to limit—or even ban—the sale of many electronic-cigarette products.
Yet despite the many challenges in the category, its importance to c-stores cannot be understated. It was this question of tobacco’s overall value to the channel that Don Burke, senior vice president of Pittsburgh-based Management Science Associates (MSA), addressed during his general session.
To explore this concept, Burke used MSA and Paradigm Sample’s custom cciPanel data, a mobile research panel that captures consumer shopping patterns and is particularly useful for tracking the behavior of the millennial segment.
“In this case, we looked at about 3,400 different visits to a c-store and what shoppers did on those occasions,” Burke said.
On the surface, tobacco did not appear as crucial a category as others: Of the 15 categories tracked, tobacco was only the fourth most purchased, falling behind gas and other fuel, packaged beverages and candy, gum and mints. When the cciPanel buyers visited a c-store, they purchased tobacco 21% of the time, compared to a 55% purchase rate for gas and fuel.
However, when Burke looked at how much tobacco consumers were spending, the category’s true importance began to emerge. Sixty-seven percent of the time, cciPanel’s average c-store shopper spent less than $10; 20% of the time he or she spent $10 to $20; and 13% of the time it was more than $20. There was a perceivable shift toward larger baskets when MSA looked at tobacco consumers, who spent less than $10 43% of the time, $10 to $20 32% of the time and more than $20 25% of the time.
“Compare that to any other category and it really is the strongest,” said Burke. “That’s saying to you that your tobacco purchaser has the largest cash purchases per ring of any shopper in your store.”
And though some of that increased basket could certainly be attributed to the cost of tobacco itself, the cciPanel data also shows that tobacco consumers tend to purchase from a variety of other categories within the store. Prominent add-on purchases included gas and fuel (which tobacco consumers also purchased 52% of the time), packaged beverages (35%), candy, gum and mints (17%) and lottery/gaming (15%).
“The point about a tobacco purchaser is that they will become involved in that convenience shopping experience,” said Burke. “They shop throughout the store—much more so than the shoppers in any other categories.”
This fact was even more apparent when MSA broke down how consumers of different segments within the tobacco category interacted with the store. While premium-cigarette shoppers tended to purchase a wider variety of products (interacting with 22 of the 27 categories MSA tracked), large-cigar shoppers had a strong tie to the important beer segment, presenting retailers with a great potential to increase sales.
“There’s a strong relationship—particularly on the weekends—between cigars and beer,” Burke said, pointing out that weekend consumers buying large cigars were more likely to pick up beer than any other category besides packaged beverages. “If you have some cross-merchandising opportunities, ways on the weekend of putting the cigars on display near the beer aisle, you’re probably going to sell more.”
As valuable as those add-on purchases and cross-merchandising opportunities are, perhaps nothing highlighted tobacco’s importance to convenience stores more than the cciPanel data on the frequency that tobacco shoppers visited c-stores. Roughly 10% of the cciPanel’s average consumers visited a store on a daily basis, but 16% of tobacco consumers were daily shoppers. Thirty-seven percent of average c-store consumers visited two to three times a week, yet that number was 55% for tobacco shoppers. And 23% of average consumers visited once a week; for tobacco, that figure declined to 16%.
Taking into account the amount tobacco consumers spend, the variety of other categories they shop and the frequency of their shopping trips, Burke’s data solidly showed what many retailers already know: Tobacco consumers are invaluable to the business.
“Not only are they buying more, but they’re visiting your store more often,” Burke said. “This is a critical point in understanding how very important tobacco shoppers are in this channel.”
Keys to ‘Big Electronic’ Success
The importance of the tobacco shopper is likely to only increase as more consumers turn to the margin-friendly and yet-to-be regulated electronic-cigarette segment. As managing director of beverage, tobacco and convenience store research for New York-based Wells Fargo Securities LLC, Bonnie Herzog has been far from shy in her enthusiasm for the nascent segment, going so far as to call herself a “bull” for the category.
“E-cigs remain the biggest excitement for 2013, according to our survey respondents,” said Herzog during her “Industry Trends and Insights: An Analyst’s View” session.
And this excitement is growing now that Big Tobacco is getting into the game. Lorillard Inc. was the first, acquiring blu eCigs in April 2012; R.J. Reynolds Tobacco Co. recently announced plans to take its Vuse digital cigarette national; and Altria Group Inc. is about to start test markets of its new MarkTen offering.
Yet, with more than 200 private e-cigarette companies already on the market, the question remains: Who will be the dominant player in this profitable space, especially if—or when—the FDA issues regulations?
“With the Big Three entering, there is a good chance that they will win, along with several of the private companies that are in the market today,” said Herzog. “I do think with regulations, the barriers to entry do increase. It increases the cost of entry. It’s something to think about.”
Clearly, companies such as Lorillard, Reynolds and Altria have plenty of experience dealing with both regulatory issues and the highly competitive tobacco market. The fact that they have ample funds to support e-cigarette endeavors, as well as relationships already established with retailers, may also help solidify their slots in the space.
However, Herzog doesn’t believe this automatically means the e-cigarette segment will mirror that of traditional cigarettes, in which Altria’s Marlboro brand has long been the market leader.
“The market share will be different than what it is with traditional cigarettes today,” she said. “It’s potentially a great opportunity for Lorillard. I think Lorillard’s purchase of blu was very smart. They paid $135 million just over a year ago, and it’s already contributing to their bottom line.”
Meanwhile, she was surprised to see Altria enter the market so quickly with MarkTen. It’s possible that the move may have had more to do with strategy than the product itself.
“I’m not convinced [MarkTen] is going to be their final product, but I think it gives them a voice in this category to have conversations with the regulators,” Herzog said. “They do have a product; they couldn’t go to the table without that. I don’t think [MarkTen] is their endgame. I still wouldn’t be surprised if [Altria] bought a private company.”
The big appeal of a private e-cigarette company comes down to a very important factor for consumer products such as e-cigs: brand. And though Lorillard, Reynolds and Altria may have more money and established relationships, many electronic-cigarette players have years on Big Tobacco when it comes to brand development.
“I certainly give some of the private companies a lot of credit for building some strong brands already,” said Herzog. “I think it’s ultimately very important to have a strong brand. That will be the key to success. This category is a consumer product; don’t underestimate that.
“There’s still certainly plenty of room for some of the other players we all know of,” she continued. “It will be interesting to see how that all shakes out.”
Pre-K Plan Warning
Playfully introduced as a true “superhero of our industry,” NATO executive director Briant has developed a stellar reputation for educating tobacco retailers on state and local tobacco regulations threatening their business. However, this year, Briant’s cautionary tale was not local, but national.
Briant put the spotlight on President Obama’s pre-K expansion proposal. And like Herzog on e-cigs, Briant is certainly interested to see how this plan “shakes out.”
Announced earlier this year, the initiative would expand preschool education to all low-income 4-year-olds. The $75 billion project would be funded by a 93% increase in both the cigarette and OTP federal excise taxes. Cigarette and little-cigar taxes would go up by 94 cents per pack, from $1.01 to $1.95; chewing tobacco would go up to 97 cents per pound and moist snuff to $2.91 per pound; pipe tobacco would go from $2.83 per pound to $5.64; and RYO would be devastated, going from $24.78 per pound to $47.82 per pound.
“These are significant increases, almost doubling tax rates across the board,” Briant said.
One need look no further than 2009 to glimpse how such increases could cause significant problems for tobacco retailers. When cigarette excise taxes were raised by 62 cents per pack, the Federal Trade Commission (FTC) reported that volumes fell by 13% through 2010.
“The president almost doubling the tax is going to have an even more significant impact on cigarette and OTP volume,” said Briant. “It’s just an estimate, but the increase would probably result in more than a 13% [volume] decline across the board.”
While most retailers are aware that doubling excise taxes will have a definite effect on their business, there are plenty of aspects about Obama’s pre-K initiative the public is not aware of.
‘What’s not widely reported is the fact that the states have to pay a significant percentage [of the pre-K funds],” Briant said. “It increases every year. In years one and two, a state needs to contribute 10% of the federal funds they receive for this program. By year 10, the states have to put in three times the amount the federal government’s putting in. And after year 10, it’s all up to the states.”
This means that if a state needs $100 million a year to cover the program, the federal government will cover roughly $90 million of the costs during the first two years, with the states contributing just $10 million a year. However, come the 10th year, the state will be on the hook for $75 million, with the federal government covering only $25 million.
“The unanswered question is: Where are the states going to find that money?” Briant said.
And while Secretary of Education Arne Duncan has been traveling to Republican-governed states such as Georgia and Michigan to try and garner support for the program, NATO is doing its part to make sure such governors know the steep cost that would come along with the proposed pre-K expansion.
“We’re issuing letters saying this is not going to work—and that states had better take notice because they’re going to be on the hook for significant funding going forward,” he said.
It’s a fight that’s far from over: Most Republican governors may like the concept of expanding pre-K education, but not if it means raising taxes to do so. Similarly, House Republicans are very cool on the idea of raising taxes again, especially after agreeing to an earlier tax increase (on the wealthy) earlier this year.
“This is going to be significant if it gets any traction,” Briant said. “That’s the real question: Will it get any traction?”
Participants in CSP’s 2013 Tobacco Category Review Meeting, held Aug. 7-8 in Chicago:
Retailers
Certified Oil Co.
Wayne Wills
Country Fair Inc.
Jim Kupniewski
Cumberland Farms
Anne Flint
Family Express
Ryan Fasel
Forward Corp.
Lundy Edwards
Power Mart Corp.
Sam Odeh
Royal Buying Group Inc.
James Conrad
Shop Rite/Tobacco Plus Stores
Susan Dorsett
Smoker Friendly/Gasamat
Terry Gallagher
Speedy Stop
Natalie Teinert
Sunoco Inc.
Steve Jones
The Pantry Inc.
Kevin Taylor
Tri Star Services
Rick Staley
Tri-State Petroleum
Frank White
Suppliers
CB Distributors Inc./21st Century Smoke
Carlos Bengoa, Mark Hopkins, Pat Johnson
Commonwealth-Altadis
Mike Di Donato, Brion Gillett
General Cigar Co.
Chris Rohr
Harbor Industries Inc.
Mike Detenber, Craig Neuhoff
Kretek International
Patrick Hurd
Logic Technology Development LLC
Chris Colon, Miguel Martin
Nat Sherman Inc.
Vic Coons
National Tobacco Co.
Steve Clark
Nicotek/Metro Electronic Cigarette
David Hoffman
NJOY Electronic Cigarettes
Vito Maurici, Jim Presley
Republic Tobacco
Mark Lopofsky
S&M Brands Inc.
Greg Chapman, John Greene
Scandinavian Tobacco Group-Lane
Greg Hixson
Swisher International
Mark Humphreys
Tantus Tobacco
Ross Haynes, Joe Nicolaus
Vapor Couture
Mark McLeod
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