June 7, 2010 - Nik Modi, tobacco analyst, UBS Securities LLC, New York.. Modi told listeners, "A year ago was a tough place for the tobacco consumer and the convenience store consumer, but "the industry held up remarkably well last year."
Said Modi: "Unemployment was high, especially on the construction side...savings rates were going significantly higher and people were spending less...gas prices were starting to rise as we saw the stock market starting to improve and investors were starting to buy risk assets, which is driving up the price of oil. And you had all the massive price shocks from the federal excise tax [FET], not to mention what was going on with the FDA." He said, "One year ago, when all of this was taking place, it sounded horrific, but we think price elasticity—relationships that have been prevalent for the last 30 or 40 years—will still hold up. And that's exactly what we saw."
According to Modi, retail cigarette prices last year were up 25%, volumes decreased about 8%, in line with the historical relationship. Also, the Big Three tobacco companies had significant profit growth in spite of the FET and the lower volumes. Profits increased by 10%. With price elasticity, "as long as this relationship holds up, retailers, wholesalers and manufacturers can make more money as prices go higher."
In c-stores, a year ago, "it was a tough place to be for the low-income consumer.... We had deteriorating consumer confidence. What we're seeing now is a reversal.... I think that the high-income consumer this year is going to feel some pain because of the stock market, whereas the low-income consumer is going to see some relief. We're starting to see convenience store traffic already starting to come back into the positive, up 17.3%, and average visit frequency up 11.4%."
Consumer confidence is now rising for the lower-income consumer, much more than it has for the higher-income consumer, he said.
"We've seen an uptick in initiatives to tax products outside of cigarettes. Now, that may be some relief to many [c-store operators] who are saying finally some other categories are taking on the tax burden. But this isn't necessarily a good thing, because if your consumer is buying cigarettes and Mountain Dew, the fact that Mountain Dew prices are going up because of a sugar tax could impact your cigarette sales," said Modi. "So it's important to understand cross-elasticity between different categories."
He said he does not think menthol will get banned. It generates more than $14 million in tax revenue. "This is a meaningful amount of money for a government that is looking for money." If it is banned, a huge underground market will be formed, he added, and the scientific evidence "is just not conclusive."
Modi moved from the present to the future, offering some projections on the changing breakdown of tobacco products. Currently, on a national basis, cigarettes make up 79%, cigars 10% and smokeless 11% of the "profit pool." Assuming profits grow in line with category volume trends, cigarettes will be down 4%, cigars up 5% and smokeless up 7%. In 2015, cigarettes would be 69%, cigars would be 14% and smokeless would be 17%. By 2025, other tobacco products (OTP) could surpass cigarettes: cigarettes 45%, cigars 22% and smokeless 33%. "So there is definitely an evolution taking place in this industry," Modi said. "People are using the same amount of nicotine, they are just changing the delivery form."
He told retailers, "It's time to get ahead of that shift and make sure you're more of a total tobacco enterprise.... It's time to evolve at the retail level, which many of you are in the process of doing, but should probably think about accelerating."
Both manufacturers and retailers will be driving that shift, said Modi. "For the retailers out there that have the forward-looking knowledge and incentive to do it, it makes sense to do it before the major [tobacco companies] make them do it. We know the categories of smokeless and cigars are under-spaced. So there's an opportunity to change that. There are a lot of nonproductive SKUs across the entire tobacco category; the federal excise tax going up has made people cognizant of the cost of carrying those slow-turning inventories, so perhaps it makes sense to take a view on what brands they should be carrying and maybe accelerate some of that rationalization to free up more space for more productive assets."
A poll taken during the CyberConference asked, "Is your overall total tobacco category (cigarettes plus OTP) growing, declining or staying about the same in unit volume?" The responses: 78% said yes, it is growing; 14% said no, it is declining or staying the same; 7% said they were not sure.
Reference: Year of the FET Was Not Year of Defeat
First-half 2010 tobacco update reveals much for retailers to be optimistic about
by Greg Lindenberg, Convenience Store/Petroleum (CSP) Daily News, 6/7/2010.
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Convenience Store/Petroleum (CSP) -UBS Tobacco Survey - 2010..;
Tobacco analyst - c-store tobacco sales not as bad as could have been..;
Tobacco Update CyberConference: more spending money for low income consumers/worry entry of big tobacco in OTP..;
Nik Modi, tobacco analyst with UBS: Supreme Court Case "was a coin flip..";
Nik Modi, UBS analyst tobacco remains "economy resilient"..;
Tobacco Update (6/5/2008) presented by Nik Modi, UBS Tobacco Analyst..;
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