Tobacco is one of the world’s largest consumer goods industries despite pressuring environmental forces that try to diminish its market share. It has a long withstanding global history as a profitable business model rooted on a leisure activity. The use of tobacco first started to spread in the late 15th century after a crewman aboard the Christopher Columbus voyage noticed Cuban natives igniting and inhaling smoke from dried tobacco leaves. News returned to Spain, spreading the smoking experience, which lead to the production of the world’s first cigar. By the 1600’s the use of Tobacco reached much of Europe, Asia, Africa and North America. Although paper cigarettes were developed around the same time as cigars, the first push for factory production came in 1881 with the issuance of a patent for a cigarette rolling machine that could produce 120,000 units daily. By 1944, there were roughly 300 billion cigarettes produced annually.[i] However, the industry would take a turn in 1964 when the Surgeon General of the United States reported the dangers and health risks of cigarette smoking. The tobacco industry has been combating consumer health awareness, governmental restrictions and taxes, and anti-smoking lobbying despite increased profitability ever since its introduction to the global market. Estimates place the current industry revenue at $465BN and gross profit at $280.3BN for 2010. After taxes the estimated net profit will account for approximately 8.5% of the total industry revenue for this year. The industry employs 604.9 thousand with total wages approximating $11,807.8MM. Over the last 5 years, growth has dominated and 2010 marks continued success. Worldwide industry revenue, gross product and trading (exports and imports) are up 2.5%, 1.9% and 1.6% from 2009, respectively. However, some stagnation has occurred with the number of firms, enterprises and overall employment down 4.3% collectively, while wage expense has risen at an estimated 0.7% from 2009. This is not alarming, but typical for mature industries due to strategic mergers and acquisitions and an increased labor force comprised of more skilled laborers. The product and service mix of this $465BN industry is top heavy and not evenly distributed. Of the main seven tobacco products, cigarettes account for approximately 82% of the industry’s revenue, which is disproportionately high in comparison to the other goods offered. This product line is further subcategorized based on price with premium, value and economy brands. The second largest revenue generating tobacco product, loose smoking tobacco, holds for 5% of the market share. The other product groups, cigars, stemmed re-dryed tobacco, bidis, snuff and snus, make up the remaining 13% of the market. The products funnel through 5 major service outlets with wholesaling leading at 64%. This may change as top tobacco companies acquire their own wholesaling operations. Tobacconists and vending machines handle 20% of the market, but this too is shifting due to government regulations. Supermarkets, grocery stores and convenience stores account for approximately 10.5% of the service outlets with exports trailing the list with 5.5%. Although the tobacco industry is segmented based on products, prices and service outlets, globalism remains the one constant. It is an international industry with far reaching powers entering not only every country but every village. It is an easy crop to grow and consumers of the finished good are found throughout every region. Nonetheless, major countries dominate this industry, from China to the United States to Malawi to Colombia to Sweden. The top companies also operate globally trying to gain market share in every corner of the world. China is becoming a world power with an unprecedented and unsurpassed growing population, of which a great number smoke. Tobacco was seen in China as early as the 17th century and by the 1980’s the country was investing heavily in cigarette facilities in an effort to expand production capacity. By 2003, they had roughly 250 million smokers and produced more than twice the number of cigarettes than the world’s next largest producer, the United States.[ii] Their state owned monopoly, China National Tobacco, is becoming a leading company within the industry with a lucrative portfolio of over 900 brands. They owned 13.8% of the global market share in 2009 and all efforts to continue capitalizing on this industry were being pushed forward for greater market control. Other Asian countries are also power players in the tobacco industry. India employs one of the largest tobacco workforces worldwide. Indonesia, Vietnam and South Korea also rely heavily on the tobacco industry. However, they do not rival Japan’s ranking. Japan first became exposed to cigarettes in the 1850’s when both Britain and the United States began to import products into the country. The government saw cigarettes as a source of revenue and started to tax them in 1888. They then established a government tobacco monopoly which would later become Japan Tobacco International, one of the world’s largest tobacco companies. The United States has always been heavily involved in the tobacco industry, but has seen recent signs of decline. “USDA estimates indicate that nearly 727 million pounds of tobacco were produced in 2006 - a figure that reflects steady annual declines, as illustrated by the 2002 total of 871 million pounds and 1.05 billion pounds in 2000.”[iii] Even though the United States is no longer the leading Tobacco producer, tobacco is still among its top ten cash crops with a value of $1.6BN. They are also home to Altria Group, a spin-off of Philip Morris International (PMI), the world’s leading tobacco company. Furthermore, the United States will forever be known as the home of the Marlboro man, the resonating image behind the world’s leading brand. Many countries throughout Europe are involved in the tobacco industry. Switzerland is home to Phillip Morris International, while the United Kingdom is home to both British American Tobacco (BAT) and Imperial Tobacco Group PLC (IT). PMI was created after Phillip Morris acquired United States based Altria group in 2008 and is currently the overall market leader. BAT positions themselves as the world’s most international tobacco group with operations spread across 180 countries. Their strength in Latin America and Sub-Saharan Africa is helping differentiate themselves from other players in the industry and provide opportunities for growth throughout the regions. IT is also globally diverse with concentrations in the United Kingdom, Germany, Spain, France, United States, Eastern Europe, Africa, Asia and the Middle East. The top tobacco companies have entered almost all these countries with strong manufacturing and marketing platforms. The top 5 companies represent 72.2% of the global market share, with most companies separated by just 0.2%. Each must accurately assess growth opportunities in their current markets, specifically Europe and America, while taking an early claim of emerging markets, especially in Africa and Asia. The top companies are Philip Morris International, British American Tobacco, Altria Group, Japan International Tobacco, Imperial Tobacco and China National Tobacco Company. Philip Morris International (PMI) is the leading company in the global tobacco industry, owning 7 of the top 15 global brands, including Marlboro, the number one cigarette brand. It claims approximately 15.5% of the total international cigarette market outside the United States and China. It was first started in 1822 and through the years underwent numerous strategic changes and alliances that lead to its market domination. “The company was the first to anticipate the potential for overseas tobacco sales…the company’s Marlboro Man advertising campaign became one of the most successful in the world [and] some cite Marlboro’s popularity as the primary reason for the leading position of the United States in world cigarette exports.”[iv] Originally PMI was a subsidiary of the Altria Group, but the two split in 2008 in an effort to reduce costs and place a stronger focus on their respective geographical regions. Virginia headquartered Altria would focus on the United States and Switzerland headquartered PMI on the global markets, excluding the United States; therefore the two companies were not in direct competition, but in strategic alignment to gain brand loyalty and market share. PMI’s 2009 revenue totals were $25.035BN, showing a slight decrease from 2008, due to a decline in Europe resulting from increased legislative bans, consumer health consciousness and black market trading. The geographic breakdown of the 2009 revenue “was as follows: European Union 46.0%; Easter Europe, Middle East & Africa 22.3%; Asia 20.0%; and Latin America and Canada 11.7%.”[v] The company did manage to market tobacco products in over 160 countries, selling premium, mid-price and low-price brands of smoking and smokeless tobacco. Cigarettes are its greatest revenue generating product selling over 864 billion units in 2009 and the Marlboro brand contributed approximately 35% of these sales. “A host of product innovations have been employed to ‘add value’ to the [Marlboro] brand and maintain its premium status, e.g. Marlboro Filter Plus that has new flip and slide pack and Marlboro Intense that has a bolder full flavor for the Turkey, Malaysia and Portugal regions.”[vi] Although Marlboro is its primary brand, PMI offers other premium brands such as Merit, Virginia Slims and Parliament. They diversified their cigarette product line offering mid-price brands, such as L&M and Chesterfield, and value brands, like Bond Street, Lark, Muratti, Next, Philip Morris and Red & White. They have also branched out with local brand offerings similar to Diana in Italy, Assos in Greece and Apollo-Soyuz in Russia. They have purchased local companies to further infiltrate growing markets in both underdeveloped and developed countries; for example they gained ownership of Productora Tabacalera de Colombia Protabaca Ltd., a Colombian cigarette manufacturer, and Petteroes, a Norwegian fine cut tobacco merchandiser. PMI has pressed forth with additional product launches introducing new lines of smokeless tobacco through key acquisitions. In 2009, they acquired Swedish Match South Africa and formed a joint venture with Swedish Match AB; both moves signified an emphasis on new smokeless tobacco products outside of the United States in order to expand their product lines. As stated on their website, “Our marketing goal is to find ways to effectively, responsibly and profitably connect our brands with adult tobacco product consumers. Our marketing communications for [smokeless tobacco] are designed to appeal to the primary audience for this product: adult smokers who are interested in smokeless tobacco alternatives to cigarettes.”[vii] The company further diversified in an effort to absorb risk, buying non-related industry firms such as General Foods in 1985. Non-tobacco products and services make up half of their sales mix. They continue to look outside the box in order to mitigate risks within their own market caused by greater health consciousness, anti-smoking lobbying, government bans, increased illicit trade and restrictive regulations. For example, PMI is filing suit against a slew of governments that are impeding its marketing agendas and policies, e.g. they are fighting against a ban on the open display of cigarettes in Oslo, while battling suits brought against it by anti-smoking lobbyists and smokers searching for punitive damages due to incurred health risks and sufferings. PMI is less concerned with advertising restrictions as its brands have significant market share in the developed countries that are calling for these bans. The company has found other ways to maintain its brand image in the public eye, with such innovations as the launch of a Marlboro clothing line. Their focus is on infiltrating emerging markets, specifically in Asia, before these countries follow the lead of the developed countries and implement advertising restrictions, smoking bans and government taxes. Although they are the market leader in 11 of the top 30 cigarette markets, they want to continue to gain volume and value share in new markets. “Persuading consumers in low-income economies to opt for premium international brands such as Marlboro remains the company’s best opportunity for sustained growth. The success of this strategy can be seen in Mexico where Marlboro now accounts for 50% of the market.”[viii] They are increasing their share of the largest growing market, Asia, with the exception of China, as it rose to 20% in 2009 from 14% in 2004. They strategically entered China through an alliance formed in 2005 with China National Tobacco Company that allowed for the licensed production of Marlboro in China. Through all of its marketing strategies and high brand equity, PMI will remain one of the industry’s top companies. “We want adult tobacco product consumers of our brands to purchase our brands consistently. We also want adult tobacco product consumers of competitive brands to switch to our brands. Our marketing programs are designed to enhance brand awareness, recognition and loyalty among adult tobacco product consumers in a responsible way.”[ix] Their policies are proving successful as their shipping increased by 4.5% in 2010 from 2009, their third quarter profit rose by 1.3% and the Marlboro brand increased market share, specifically in Asia. Altria, PMI’s spin-off company, has similar goals to PMI and the same envisioned mission has proven successful with Altria ranking amongst the top 6 tobacco companies holding an approximate 4% market share despite strictly selling in the United States. Their competitive advantage mimics that of their international counterpart. They possess 4 strong brands of tobacco operating companies backed by a superior brand-building infrastructure. Fiscally, they have financial discipline with a committed drive for cost management and for return-on-investments in the form of cash to shareholders. Their premium brands have continued to perform well despite an economic recession and government restrictions. Like PMI, their target market is strictly adult consumers of tobacco products. Due to their strong value proposition, “today, 4 out of 10 adult cigarette smokers reach for Marlboro. Marlboro…is the number one brand in every adult age cohort.”[x] Furthermore, Marlboro’s non-menthol segment continues to grow holding a reported 52.3% market share in the second quarter of 2010 due to the launch of a new product extension called Marlboro Special Blend. Other brands also add value to Altria’s portfolio including Basic, Benson & Hedges, Virginia Slims, Merit, Parliament, Copenhagen, Skoal and Black & Mild, to name a few. In fact, it has over 50 combined brands, emerging as the second leader in menthol cigarettes, having over 20% market share of that target segment. Altria continues to develop new products for the changing environment as 25% of adult cigarette smokers are asking for smokeless tobacco alternatives due to the health risks associated with smoking. They have introduced more new products in this line of consumer goods than cigars and cigarettes, because this is the fastest growing industry segment. Their premium smokeless brand portfolio consists of Copenhagen, Skoal and Marlboro Snus, each of which maintains unique demographic segment positions. Copenhagen is one of the leading brands for adult dippers between the ages of 30 to 49 and has increased its overall market share by 2.3% in the last year. Skoal leads among adult dippers ages 21 to 29, among adults who consume smokeless tobacco and cigarettes, and among the fast-growing pouch segment. It boasts the highest brand loyalty and high brand equity, accounting for 40% of the smokeless tobacco market. Its success is due to product quality and innovation to stay ahead of market trends with creative product extensions, such as the introduction of a mint flavored product, Wintergreen. Altria expanded Marlboro Snus, which is geared towards current adult smokers, and launched new products for its Black & Mild line, which is in the machine-made large cigar category. “From the beginning of 2008 through the second quarter of 2010, our tobacco operating companies successfully introduced 26 new products to build their brands. In the first half of this year, these products had almost a 4% retail share of the cigarette, almost a 6% retail share of the smokeless category, and over 5% retail share of the machine-made, large cigar category.”[xi] Altria strongly supports brand building infrastructure in order to gain market share. Its sales and distribution channels represent a strong competitive advantage as their products enter the market with ease and are readily available. Their products are available in over 95% of the tobacco sale space. The company’s “unparalleled reach and speed to market” was exemplified in the last quarter of 2009 when “Copenhagen Long Cut Wintergreen achieved distribution in over 90% of targeted stores just two weeks after launch.”[xii] Distributors make shelf space for their products because they sell quickly due to brand loyalty and awareness. To further enhance this, Altria “executes adult consumer engagement programs…through a variety or methods, such as direct mail, events, and online experiences that together create an average of over 200 million brand interactions annually…Marlboro’s web site is one of the largest consumer packaged foods web sites in the United States, as measured by monthly traffic.”[xiii] Altria has also updated its internal policies in order to remain competitive and increase profitability through cost management. They have restructured numerous internal functions resulting in a cost cutting campaign that has accounted for a $1.5BN decrease in expenses. This allows income to increase and profit, in turn, is passed on to shareholders. To help add to the bottom line and diversify risk, like PMI, it too has acquired non-tobacco industry related businesses, such as SABMiller. Altria’s success in a difficult market not only means profits for the company and dividends for its shareholders, but also increased brand awareness and equity for PMI. Its increased market share aids the international conglomerate in remaining the top brand. The mutually beneficial alliance corners all market segments and controls market share in new areas through innovative product launches and extensions, while combatting competitive pressures from the other leading tobacco companies. British American Tobacco PLC (BAT), the second largest global tobacco company, was formed in 1902 through a joint venture between Imperial Tobacco and American Tobacco. It controls 15.3% of the global market, producing cigarettes, cigars, roll-your-own cigarettes and the smokeless tobacco snus.[xiv] In 1976, they diversified their portfolio buying into retailing and financial services only to strip the retail business in 1989 following a failed hostile takeover and eventually the financial services sector in 1998.[xv] BAT positions itself as the “world’s most international tobacco group” with approximately 300 brands selling across 180 countries.[xvi] Their strength in emerging markets, such as Latin America and Sub-Saharan Africa, differentiate it from the other major tobacco companies. For example, BAT owns a 75% interest in Souza Cruz SA, Brazil’s leading tobacco producer. They have built a strong worldwide presence through a number of acquisitions, including the purchase of the Turkish state tobacco company, Tekel, and the acquisition of the snus business Skandinavisk Tobakskompagni. BAT controls a strong share of the United States market through a 42% stake interest in the United States’ second biggest player, Reynolds American, through the merging of its United States subsidiary, Brown and Williamson, with the RJ Reynolds Tobacco Company.[xvii] BAT’s main focus is on its Global Drive Brand Portfolio, which includes Dunhill, Kent, Pall Mall and Lucky Strike. These brands accounted for 195 billion cigarette sticks in 2009, 27% of the company’s global volume. They position their main brands based on prices - Dunhill as super-premium, Kent and Lucky Strike as premium and Pall Mall as a mid-price/value. Their regional brands include Vogue, Rothmans, Kool, Benson & Hedges, State Express 555, Peter Stuyvesant and John Player Gold Leaf. BAT encourages consumers to up-trade from lower priced brands to premium ones, by focusing their marketing efforts on new product development and product innovation, primarily on filters, flavors, packaging and presentation.[xviii] However, the weak economic environment has caused down-trading; nonetheless its four Global Drive Brands saw volume of growth of 4%.[xix] In 2009, BAT experienced positive growth with a 17.2% rise in revenues to $22.2BN and a 10.4% increase in net income to $4.2BN due to favorable exchange rate movements, higher prices and acquisitions made in 2008 and 2009. BAT has stated that its intention is to bypass PMI to become the world’s leading cigarette company. The acquisitions of Tekel and part of Skandinavisk Tobakskompagni imply a proactive approach and should help strengthen their international brands. The Skandinavisk Tobakskompagni acquisition brings BAT into the snus business, but they are still significantly weaker than P MI in the cigarette alternative market. BAT’s main other tobacco products business remains its stake in Reynolds American. Additionally, they are undertaking another 5-year plan to save £800MM per annum in operating costs following a recently completed 5-year plan that saved £1BN by relocating manufacturing capacity and cutting supply chain costs. Even with cost-cutting projects and acquisitions, surpassing PMI, particularly in terms of revenue and profits, seems improbable given the global reach and position of the Marlboro brand, which transcends any of BAT’s offerings.[xx] BAT must also contend with the other tobacco leaders potentially siphoning their market share. Japan Tobacco International (JTI), which is a government-based monopoly, is currently the third largest tobacco company in the world with an estimated market value of $37BN and hold approximately two-thirds of the domestic Japanese tobacco market.[xxi] With a focus in the manufacturing and sale of tobacco products domestically and abroad, JTI has 274 subsidiaries and operations in various regions across the world. JTI was always prominent in the domestic markets, producing 9 of the 10 leading cigarette brands in Japan, but soon became more ambitious in its pursuit of global market share. As such, they acquired RJ Reynolds’ international division in 1999 for $8BN and followed it with another international acquisition, the purchase of Gallaher for £9.4BN.[xxii] These purchases balanced their revenues between domestic and international markets. In the fiscal year ending March 2010, their domestic tobacco sales constituted 49.6% of total revenues while their international tobacco sales accounted for 42.9% of the total revenues.[xxiii] These acquisitions also expanded their portfolio and brands with the inclusion of 3 of the world’s top 6 brands, Winston, Camel and Mild Seven. Benson & Hedges, Silk Cut, LD, Sobranie and Glamour compromise some of their other brands. They have started “investing in strong brands while phasing out brands with only local support” and developing “the ‘technology’ smokes segment, which covers reduced-odor cigarettes. In 2003, JT launched two low-odor brands. In today’s competitive environment, it’s important to always update your product.”[xxiv] They lost one of their most lucrative cash cows in 2005 when PMI ended their Marlboro licensing agreement that allowed them to manufacture and market the world leading tobacco brand in Japan for more than 30 years. The company had to offset the potential losses associated with this license termination and thus developed an ambitious restructuring plan that called for “improved sales, reduced expenses, further profit growth in the international tobacco business, and investment in non-tobacco activities, notably food and pharmaceuticals.”[xxv] Until recently, the Japanese market was relatively free of regulations allowing JTI to flourish in the domestic markets. Smoking was allowed in most public places and advertisements were not restricted. In 2008, however, the rules began to change with many companies facing bans on advertising promotions. The sales of tobacco products through vending machines were only permitted with a swipe of an identification card to legitimize the consumer’s age. The vending machine regulations could hinder future growth for JTI as they are the most used distribution channel, covering 33.4% of the total market distribution share.[xxvi] In addition, growing consumer health awareness and an aging population create interference in growth potential. As a result, revenues have recently declined by 10.2% from fiscal year 2009 to 2010.[xxvii] The Japanese markets have recently trailed behind China when comparing revenue CAGR. In Japan, the total market generated revenues of $48.2BN in 2009 and averaged a CAGR of 5%, while the total market in China generated $66.7BN and averaged a CAGR of 5.4%. China owns an overall Asia Pacific market share of 44.3% while Japan has 28.3%.[xxviii] JTI will continue to hold a strong position in the Japanese market as there are limited new entrants to this area. Many retailers have limited shelf space and resist new brands lacking the legacy of companies such as JTI. The government has placed many restrictions on advertising and limitations on public smoking. These limitations slightly hinder JTI as they possess strong brand presence. Brand power is crucial in the tobacco industry so it is very challenging for new companies to establish themselves given the limitations on advertising. These entry barriers protect JTI’s brand stronghold by keeping consumer brand knowledge focused on them. Premier brand awareness is partially created through century long legacies, such as Imperial Tobacco (IT) which was founded in 1901 in the United Kingdom. IT maintains 9% of the global tobacco market share and ranks fifth amongst the cigarette manufacturers with a 5% share of this international market. They are the largest international fine cut & cigar player (excluding cigarillos) partially due to their acquisition of Altadis in 2008. For 2009 total revenue was $41.1BN up from 2008 total revenue of $40.5BN. They operate 51 manufacturing sites worldwide and maintain approximately 38,000 employees in about 160 countries, including its main hold of Western Europe.[xxix] Their key brands of cigarettes and cigars are Davidoff, Gauloises Blondes, JPS, Fortuna, Gitanes, Rizla, Drum, Golden Virgina and West, which is their largest selling brand. IT pushes for sales growth through building strong brand recognition via positioning. They have increased their volume sales by 11% since acquiring Davidoff in 2006 through their key international brands West and Davidoff. They continue to support key local and regional brands such as Lambert & Butler in the United Kingdom and Moon in the Czech Republic, as they use the pricing value model to market their various brands. They maintain a very diverse portfolio of mixed price and product types. Their biggest strength lies in low price brands cigars and fine cut tobacco. Focusing on the lower priced brands allows them to remain focused on growth through volume sales in a depressed economy. Furthermore, the diversified portfolio allows them to respond to new consumer trends as the market changes and expands. They have begun focusing part of their energies on smokeless tobacco products, such as snus, through key acquisitions like Skruf Snus AB in 2005. IT also ranks as the world leading manufacturer of cigars, with a 25% share of the global cigar market in volume bringing in close to $1BN for 2009. They also enjoy the title of the world leader in fine-cut tobacco and rolling papers with a 27.4 % share of the market with BAT behind at 17%.[xxx] They further enhanced the diversification of their non-cigarette products with the acquisition of the Commonwealth Brands that gave IT ownership of the world’s fourth largest Roll Your Own market. This market shows great promise in a depressed economy as it offers an affordable substitute product that is perceived as less harmful. IT has concentrated on efficient cost optimization and cash utilization to generate value for its shareholders. Strategic acquisitions have aided in meeting these company objectives; they predict that their operating efficiencies will generate an estimate of €400MM for 2012. This is mostly due to the acquisition of Altadis as it combined European sales teams,[xxxi] allowing greater access to new markets while cutting costs in duplication of efforts. Competitively IT has remained stagnant in its ranking consistently holding the number 5 slot for the past 5 years yet they have seen rank improvement regionally through its implemented cost-savings and revenue-generating strategies. Altadis increased its volumes in Western Europe from 10% to 18% in 2009, improving IT’s regional ranking to third overall (up from fourth).[xxxii] Their success in the United Kingdom, Spain and Germany was the result of down-trading with their value brands JPS Silver and Windsor Blue in the recession hit economy.. Altadis generated an increase volume of sales from 9% to 11% in Eastern Europe and from 4% to 13% in the Middle East and Africa. They acquired the Rave brand from Lignum 2, in 2008, doubling their share in the United States market. Finally the Common Wealth Brands acquisition gave it a 4% share of the North American market, which they previously had avoided due to strong litigation against the tobacco industry. With the overall changes their global market share increased from 3.3% to 5.15%. IT’s brand awareness and loyalty is not as strong as PMI, BAT and JT. They are marketing Davidoff as their global flagship brand in the premium price category; however it presently holds a mere 0.4% of total global volume of sales. Davidoff possesses some strong brand loyalty in key markets like Germany and France, yet volume sales are declining. They are gaining market share in emerging markets, specifically the Middle East and Africa, where they lead in the Moroccan market. From 2004 to 2009 global volume sales of Davidoff grew by 57%, primarily due to their stronghold in Eastern Europe. Currently their largest market is becoming Taiwan where sales approximate 3.4 billion sticks. In 2010 Imperial entered a license agreement with the Korean KT&G, allowing them to manufacture and sell Davidoff in South Korea.[xxxiii] These calculated plans and expansions have helped raise brand awareness and equity as IT enters new markets and continues to pursue a greater share of current markets. Not all markets are easily penetrable, as is noted with China, who is the world’s largest manufacturer of tobacco products, capturing 14.5% of the global market share. Here, the power player is China National Tobacco Company (CNTC), a government-owned monopoly. Founded in 1982, CNTC operates under the jurisdiction of the State Tobacco Monopoly Administration (STMA) in Beijing. Although STMA is the enforcer of the tobacco monopoly, CNTC is responsible for marketing, sales, production and distribution of tobacco in China.[xxxiv] CNTC contracts orders out to smaller factories, which produce and send the orders back to the company for distribution. Retailers purchase the tobacco directly from them. The factories pay out a tax to CNTC imposed by the STMA, but keep most of the profit.[xxxv] To increase profits, CNTC begun to consider cost-saving methods and thus consolidated its brands and factories from 1,181 in 2000 to 154 in 2008 and from 84 in 2003 to 30 in 2008 respectively. “In 2007, CNTC sold 1.974 BN sticks, 97% of their home market volume. Between 2005 and 2009, revenues have increased at double digits per year.”[xxxvi] They control over 65% of the Asian Pacific cigarette market, which in turn constitutes 31.6% of the total global tobacco market. CNTC produces over 900 brands including 6 of the world’s top brands, such as their largest premium brand Hongtashan (Red Pagoda Hill) and medium-priced brand Hogmei, which is their leading brand with 1.8% of the global share.[xxxvii] The majority of their brands are lower quality cigarettes sold to people living in the rural farming areas of China. While the average price of cigarettes is relatively lower in China, the demand for high priced premium cigarettes has escalated over the last five years due to an increase in spending power. Yet, these premium brands are predominantly available in major cities, not rural areas, where the demand is lowest. To control their domestic market, foreign brands are severely thwarted. Their names are licensed out to be produced by local Chinese factories, limiting the number of imports while continuing to support the local economies. Over the past decade, a gradual increase in access for foreign companies has been granted, but with high limitations, making the process very slow. As part of the joint venture deal between CNTC and PMI, Marlboro cigarettes are now sold in China without quota restrictions. The agreement with PMI has helped CNTC with the marketing and distribution of Chinese brands, RGD Harmony and Dubliss, in other markets, such as Central and Eastern Europe and Latin America. China continued its controlling ways and, by August 2008, all imported Marlboro brands were to be replaced by locally made products.[xxxviii] CNTC began its global expansion, as foreign sales only make up 3% of the Chinese market. In March 2007, STMA reformed CNTC’s import/export system focusing on increasing exports and establishing marketing enterprises and networks overseas.[xxxix] Their globalization includes launching new factories, investing in foreign companies and considering mergers and acquisitions. They have since opened 11 cigarette factories abroad and, by 2013, plan to build two 300 megawatt coal-fired power plants. They have allotted investments totaling over $7BN to the building and implementation of infrastructure facilities in tobacco fields in the future. CNTC’s ownership of the brand Golden Deer allowed them to infiltrate the Taiwanese, Philippine, Latin American, Middle Eastern and Australian markets, as it is a leading brand in this countries. Hongtasham Premium brand was developed for export via Duty Free and European retailers. They also locally produce and market foreign brands such as 555 (BAT), Kool (R.J. Reynolds) and Lucky Strikes (BAT) through licensing agreements.[xl] CNTC is subjected to marketing bans on advertisements in print, television and radio. However, they are allowed to sponsor sporting events and place posters on public transportation venues. They have employed models dressed in the brand’s clothing and have combined marketing campaigns with non-tobacco related companies. With greater restrictions, companies are becoming more creative and unconventional in order to reach the consumer. The regulations and limitations on advertising have shaped the entire tobacco industry accentuating the importance of previously established brand awareness and equity. In 2005, the World Health Organization (WHO)’s Framework Convention on Tobacco Control (FCTC) formed a treaty amongst 168 countries that bans advertisements on tobacco products. In the European Union, the use of print media, radio and internet has been banned since the early 1990’s with the exception of billboards, movies and physical merchandise, such as clothing. The Master Settlement Agreement (MSA) restricts tobacco product marketing in the United States through outdoor advertisements, transit and television; the use of cartoons for advertising, packaging, and promotion of tobacco is also prohibited.[xli] The MSA further places the United States tobacco industry at a disadvantage as they must pay $206BN over a 25 year period to state governments in an effort to protect themselves from further wrongful lawsuits and $5.15BN in a 12 year program to recompense tobacco farmers for lower sales resulting from the MSA. In the United States, the threat of litigation from smokers and victims of second hand smoke, who had become ill or died, has dramatically increased costs. These costs, including those of the MSA, are passed on to the customer with an increase in product price. In Argentina, tobacco companies have focused on direct marketing tactics through promotions and prize-offering contests, since media print and television ads are forbidden. New entrants cannot compete without establishing a brand, highlighting their core competencies and creating public awareness, as tobacco consumers exhibit strong brand loyalty. Thus, in many developed countries, the threat of new entrants is low. The majority of new entrants are coming from the developing nations of Africa and Asia due to rising disposable income levels and minimal industry restrictions. The two main African markets are Malawi and Zimbabwe. The industry serves as 25% of employment, 38% of national income and 70% of national exchange incomes in Malawi, although many investors are reluctant to invest in the country due to recent reports of child labor.[xlii] Zimbabwe is Africa’s top producer as its local tobacco is considered the highest in quality. In Asia, Indonesia is a key region as over 50% of the population use tobacco products. Growth in both value and volume are also expected to increase in India, Vietnam and South Korea, but none as high as in China. (See Exhibit A) Additional competition comes from black markets where cigarettes are sold at deep discounts. Illicit trade has always lurked in the background; with the rise in prices on finished goods due to high excise taxes, many consumers are turning to it in search of savings. Others are searching for substitute products due to a heightened awareness of the dangers of smoking. “There are a number of benefits to consumers from using substitutes, which is why there is a moderate threat from substitute non-durable goods in this market.”[xliii] Nonetheless, the overall risk of new licit entrants is minimal as the top tobacco companies are well established legacy holders reaping the benefits of strong brand equity. They sell “a ‘must-have’ product in huge numbers at prices that are fixed or largely fixed by government tobacco tax levels that normally ensure a margin but discourage new entrants.”[xliv] The tobacco industry will continue to see profitable margins regardless of these threats and some analysts project value growth as high as 6% worldwide, mainly due to high tax increases and superfluous growth in the world’s leading tobacco manufacturer, China. From the various product lines, cigarettes account for an overwhelming 92% the global total value share, which in turn is controlled by the top 5 international tobacco companies accounting for over 72.2% of the entire market share (See Exhibit D). In 1998, the top 10 companies produced approximately 51% of the global cigarette volume. In 2008, 4 companies accounted for over 45%.[xlv] This shift highlights the intensity level of the competition further exaggerated by the restrictions placed on these establishments. “Industry concentration has been increasing their market shares primarily by mergers and acquisitions.”[xlvi] Forecasts indicate that the industry will see an annual 1.5% decrease in companies due to volume decreases and mergers. The external environment plagued the tobacco industry with the recession causing a regional shift in the international market. Developed markets noticed continuous volume sales decline, where as the developing markets detected positive growth as they were economically stronger than in previous recessions. The Asian Pacific region experienced tremendous growth, leading the market in world cigarette sales accounting for 57% in 2007 alone. Lower tobacco product prices, larger population numbers and higher consumer wages catalyzed this growth movement, and in turn shifted consumer spending habits. Accustomed to state owned products, this region began patronizing more fashionable Western brands in order to claim and ascertain their new middle class status. These are all hopeful signs of a positive forecast as 200 million new consumers will enter this market between 2007 and 2012 and that new population will soon become the next target market. On the other hand North America suffered a burdensome regional 10% decline in volume; Canada suffered the greatest loss at 7%. Western Europe had a 1% decline in 4 of the 5 largest markets (Germany, France, Italy and the United Kingdom). Some expansion occurred in Eastern Europe, mainly in Russia, and it is estimated to become the fastest growing region in terms of value. This is attributed to increased prices to be on par with other members of the EU and an increase in average price in Russia. Increased market share centered on consolidations, mergers and acquisitions. This allowed companies to increase their brand awareness regionally and internationally and infiltrate new markets. PMI’s license agreement with CNTC is a prime example of the success of forming alliances as PMI entered the closed Chinese market and CNTC expanded their offerings internationally. In areas like Western Europe, where a heavy overcrowding of brands inundates the decreasing market, consolidation has proven successful. In 2002, IT purchased Reemtsma, a German cigarette maker, resulting in a 12% sales increase. The concept behind these strategies is to increase their brands regionally and extend their products into new markets while to improving their profits. It further allows the companies to engage in cost-saving practices through manufacturing and distribution synergies where duplication of effort and procedures is eliminated. Consolidating, merging and acquiring tactics allow brands to leverage their position while granting them access to established advertising campaigns, brand equity and product offerings. Since tobacco users display strong brand loyalty, restrictions on advertising limit brand awareness, and thus, brand loyalty. By purchasing or forming a strategic alliance with a recognized brand, concerns on marketing and campaigning restrictions are mitigated as they are entering an established market with a loyal consumer following. Smokers place great importance on marketing and remember ad campaigns. “In one ITC survey about advertising, for example, 15% of United States respondents reported seeing tobacco advertisements on TV despite the fact that there have been no such advertisements since the 1970s.”[xlvii] This suggests brand awareness has a lasting effect on customer perceptions and attitudes. Furthermore, these strategies expand the product offerings and R&D. IT became the leader in the global cigar market after its acquisition of Altadis in 2007. Altria paid $2.9BN for John Middleton, maker of Black & Mild cigars, growing its market share by 4%. PMI expects to reap the monetary benefits of smokeless products through its partnership with Swedish Match, especially with the current trend of declining smoke and increased smokeless sales. These trends will continue as long as the results show increased market share, higher profitability, great product offerings and lower costs in a restricted mature market. Once consolidated, companies can focus on their product mix and portfolio to keep profits high. ‘Premiumisation’ “increases the proportion of premium, higher margin brands in the sales mix so that the same volume of sales can turn in a higher profit. In this way profits can even grow in markets where volumes are contracting.”[xlviii] All major multinationals possess a “flagship” brand in their portfolios with the hopes to launch them internationally and increase profit margins. It is usually, but not always, on the higher end in terms of price compared to other products being offered by the company.[xlix] In addition, the diversification of portfolios leads to diverse pricing platforms as companies offer lower price option products. This tempts consumers to trade down from the premium or mid-priced brands and proves successful in maintaining market share during a recession, aiding volume not value sales, which is the opposite premise of premiumisation. Due to the declining cigarette market, tobacco companies are focusing on other tobacco products and new product development, such as cigars, bidis, cigarillos, flavored smoking tobacco and smokeless tobacco. The attraction for major companies is comparative growth rates. Smoking tobacco and cigars have surpassed cigarettes in value and volume growth percentages due to expansion of products, for example eco-cigarillos and tobacco rolls in Germany. Volume growth in cigars is due to cigarette smokrs switching to small cigars and cigarillos, which have a lower tax. This is especially true in Western Europe where you have a high concentration of cigarette smokers exposed to extremely high excise taxes; this market now compromises 51% of volume sales of cigars. The major manufacturers of cigars, such as Altadis (IT) and John Middleton (Altria), all offer filter cigarillo versions of their top selling cigar brands. These are usually found in packs of 20 and are successfully marketed as a cheap alternative to cigarettes. This again, is a down-trade effect of high excise taxes, difficult economic downturns and new product enticement. Further product extensions include the launching of flavored cigars and cigarillos as offered by the world’s largest cigar market, the United States. Swedish Match, an international powerhouse in the cigar/cigarillo market, followed suit by offering a range of flavored products under their existing key brand, Garcia y Vega, thereby offering the consumers a new product under a tried and trusted brand name. Swedish Match has experimented with packaging in an effort to add value after research showed 65% of consumers surveyed claimed that freshness was the most important feature of a cigar, rating higher than taste and price. In March 2008 they launched their White Owl cigar in a individually wrapped “Foil Fresh” packaging, the first of its kind for mass produced cigars. The small cigarillo may have the greatest market potential as far as mass marketed products. Another smoking product that shows tremendous value growth is the fine-cut roll-your-own (RYO) tobacco, despite it experiencing volume drops. It has grown by 70% yet its sustainability remains doubtful even with its advantages. Many consider it a healthier alternative that is less expensive on a per unit basis, fire safe and allows for greater leverage with product expansion. Lately, new product development has focused on smokeless products due to the alarming health risks associated with smoking. Altria purchased UST, the leader of the United States’ smokeless tobacco market, with a 60% share in the market and a healthy growth of 44% between 2002 and 2007. It rivals Swedish Match, the leading chewing tobacco brand in the United States and the world’s largest Snus manufacturer. Snus’ popularity is growing as it is easily disposed of compared to spitting chewing tobacco. Camel and Marlboro brand snus are the sales leaders in this sector. To create value while differentiating itself, Camel Snus launched a patented “Slidepack,” which slides open in a colorful package. To target women, Swedish Match created a tin for its brand Vertigo Bahamas, where used portion packs can be placed in a disposal lid for easy clean up. Swedish Match has also increased their market presence through strategic alliances with competitors, such as their joint venture with PMI. The top players have repositioned some of their products to specifically target female consumers, who represent an expanding market base in most regions, except North America and Australia. The highest percentage of female smokers resides in Australia and Latin America; yet the fastest growing segment is found in Asia Pacific. Most companies offer a super slim brand, packaged with a sleek design and slimmer cigarette, similar to Marlboro’s Gold Edge Super Slim (Russia). Eastern Europe leads the world in slim/super slim cigarettes in terms of total global cigarette sales with 46% in 2008. Russia is the biggest market for this category, selling an estimated 47 billion sticks in 2008 and is estimated to grow to 51.5 billion by 2013, which would tally 13% of total sales. The top brand in Russia is Glamour by Gallagher or JTL followed by its rival, Vogue by BAT. While slims are experiencing growth in emerging markets, developed markets remain stagnant. Volume sales in the United States are small at 3%. Virginia Slims (BAT) has dominated this product market in the United States since its inception in 1968 and accounts for 1.9% and 0.2% volume sales domestically and internationally respectively. Due to limited promotion on slims and greater focus on full cigarettes, this target market has not been fully allowed to expand. Furthermore, female smokers are declining in the United States. Despite the entrance of new products across all markets, overall trade is low and decreasing. Based on real growth, imports and exports for the global tobacco industry have decreased in volume by 4.6% in 2009 and by 1.6% in 2010 as of August 6, 2010. Domestic demand is also down from 5.8% to 2.5%.[l] This contradicts the historical trend of more cigarette purchases in a recession as consumer anxiety grows. The addictiveness of nicotine is the primary driver of tobacco demand making the industry almost resilient to high fluctuations in demand as consumers are not easily convinced to quit. Users will instead turn to cost-effective alternatives during financial hardships, thereby diminishing value not volume trade. However, a decline in volume, not value, of tobacco products has persisted. This is explained by the increased awareness of health risks associated with tobacco usage and the government mandates requiring health warnings printed on all tobacco product packaging. The driving force behind the decline is the higher prices due to government taxes on both domestic and foreign goods. These taxes are imposed to deter the public from buying the product due to increased health costs incurred by the government and taxpaying population. It also generates large sums of revenue for the government, but penalizes the success of volume sales for tobacco companies. According to WHO, a 10% increase in price leads to a 4% decline in consumption for developed nations.[li] It is interesting to note that price can be a driver of value growth in the global tobacco market. This tax is usually applied on a volume basis. For example, in April 2009, United States President Barack Obama mandated a federal excise tax hike on tobacco products from $0.39 to $1.01 per pack. Duty-paid volumes are falling in developed markets, where prices are highest. The excise tax increases costs at the retail level, but not at the manufacturing level. It has reduced demand of tobacco products, reinforcing the use of price as tobacco control. However, the number of smokers is rising, leading many to hypothesize that users have turned to the black market which results in lower licit volume sales. With high prices, there exists a tendency towards increased cross-border discrepancies which in turn leads to illicit trade and the attraction of non duty-paid products (NDP) by consumers. Cigarettes have become the world’s most smuggled legal product due to their low weight, small size, high value and consumer demand.[lii] “The Imperial Tobacco Canada Web site now has ‘Stop the illegal trade in tobacco products’ boldly displayed on its home page.”[liii] While the black market is difficult to measure, it is estimated to represent as much as 15% of the total market. The FCTC puts this figure closer to 20% and claims that illicit trade leads to an estimated $40BN loss in tax revenue per year. In specific regions this estimate is even higher; according to the Tobacco Manufacturers Association in the United Kingdom, smuggled cigarettes accounted for approximately 27% of cigarette consumption in 2007.[liv] In the United States, it is approximated that state governments lose $5BN in annual taxes due to smuggling. China accounted for 37% of illicit cigarette consumption in 2009 despite a 19% fall from 2004-2009. This drop helped diminish the entire illicit market.[lv] The remainder of Asia Pacific saw the fastest growth in illicit trade of any region, rising 48%, mainly in India, the Philippines, Pakistan, Indonesia, Vietnam and Malaysia. The increase in this region directly coincides with the growing influence of tobacco control and compliance with the FCTC.[lvi] Curtailing the black market has proved difficult as governments and tobacco companies blame each other although they both agree that it causes revenue losses. Some claim the tobacco companies perpetuate smuggling as it reinforces smoking rates. The tobacco companies claim that government is lenient in its efforts to protect legal sales, as smokers of smuggled cigarettes are unaccounted for in national statistics, resulting in an artificial appearance of effective anti-smoking policies.[lvii] Measures are being used to combat illicit trade such as tracking and tracing tobacco products and determining their past locations. Negotiators from 168 countries have agreed on a framework for this system and are finalizing the details during an FCTC meeting in Uruguay in November 2010. This system would require countries to perform due diligence on sellers, distributers, and importers and exporters with such tactics as using barcode and RFID systems. Others are requiring the licensing of businesses that produce, distribute and sell tobacco.[lviii] In Thailand, retailers and wholesalers are mandated to obtain a government issued license to sell tobacco and to display tobacco products at the point of sale. In the United States, under the Code of Federal Regulations, “permit or bonds are required for: ‘any person who manufactures cigarettes, cigars, chewing tobacco, snuff, pipe tobacco, and roll-your-own tobacco (except for that person’s own consumption or use’).”[lix] Illicit trade accounts for greater sales than actual international trade which totals 5.5% of the tobacco industry’s revenue because most markets are serviced by the domestic manufacturers within that region. Europe and Japan import heavily, but recently shipments were lower. With declining trade volumes and greater competition, larger global companies are focusing on establishing very strong distribution networks to increase their brand awareness efficiently and cost-effectively. This proves tricky for countries where the manufacturing companies are government owned. The tobacco industry in China is nationalized, yet opportunities are surfacing with the diminishment of barriers and the forming of alliances. Access to distribution channels in China will be critical for importing/exporting transactions, as it holds the largest population of smokers. Tobacco’s leading exporter is the United States and their leading importer is Japan. However, between 2008 and 2009, both countries experienced great declines within their respective markets. In response, United States cigarette makers are buying less tobacco and farmers are planting less. The US Department of Agriculture estimates an overall 10% decline in production within the United States tobacco industry. The US Bureau of Labor claims this industry is plagued by one of history’s most rapid declines without signs of improvement. [lx] The Japanese market is suffering from a similar regression. The decline has been “driven by an aging population, growing health awareness and rising tobacco taxes. Growing restrictions on public smoking have played a role, as well.”[lxi] Regardless, the tobacco industry remains profitable. Famed investor Warren Buffet once said, “I’ll tell you why I like the cigarette business. It costs a penny to make. Sell it for a dollar. It’s addictive and there’s fantastic brand loyalty.”[lxii] The top companies control the majority of market share and compete on the basis of brand, price and quality. Brand is by far the greatest instrument used in establishing core competencies as consumers’ exhibit strong loyalty even during economic recession. Quality of both the raw tobacco leaf used in the manufacturing process and the design and packaging of the final marketed product enhance the perceived value and quality of the merchandise. Companies differentiate themselves based on this perception of quality. Price is a major basis of the competitive intensity; yet, due to government tax excises, tobacco businesses have less control of pricing and instead use it to differentiate their various products, from premium brands to economical ones. The companies not only face competition from rivalry businesses but also from outside organizations promoting substitute products and black market trade offering their same products at reduced fees. The existence of intense segment rivalry resounds throughout the industry as the major competitors control the market. The top three companies, PMI, BAT and JTI control approximately 45% of the global cigarette market; almost 75% of the market is controlled by only 6 companies. “Given the numerous uncertainties of the tobacco industry’s future, few companies were eager to enter the business, thus limiting competition to current players.”[lxiii] These companies infiltrate all regions, locally and globally, as some offer greater revenue opportunities. Europe is the largest revenue generating region with North Asia a close second as the European market declines and the Asian market increases. North America has been declining over the past five years even though it is a leading manufacturer. These three regions compete globally amongst themselves while facing local competition from regional companies. India has the largest tobacco manufacturing industry in terms of employment yet their target market is only domestic local consumers. Within the major market segments rivalry is greatly dispersed as they must work together to sell the product at its various manufacturing stages. The wholesaler must work with farmers’ export agencies and tobacconists in order to create a quality product placed within customer reach. Farmers sell tobacco leaves to local and international companies. These suppliers work closely with the companies to support their livelihood; this is especially true in many southern African countries, such as Malawi where 70% of exports come from tobacco. Competition amongst these farmers is not as high as it is with the manufacturers; for example, Alliance One purchases raw tobacco leaf from over 45 countries. “World demand is robust with relatively low price elasticity…tobacco is almost the perfect cash crop.”[lxiv] Suppliers have more control as their product is in high demand; yet manufacturers have numerous choices and have learned to establish relationships with farmers in order to minimize costs and ensure quality. “Tobacco manufacturers are looking for [reassurance] from their machinery (and other) suppliers. The major OEMs [original equipment manufacturers] have worked in close cooperation with the big tobacco manufacturers...[especially in] addressing the issue of costs…to reduce final cost to the customer but without compromising the normal level of service or materials.”[lxv] Throughout the 1980’s, Chinese factories used outdated equipment and even manually performed some of the production processes. In an effort to expand through modernization, STMA allowed a small number of foreign companies to bring in modern equipment in exchange for access to the Chinese market. China’s factories can now produce tens of thousands of cigarettes per hour allowing CNTC to reduce their number of factories by almost 50 in two years (1997-1999).[lxvi] Increasing mechanization and automation has created a more capital intensive industry and has reduced labor dependency, in turn achieving greater economies of scale. Unfortunately the flip-side of cost savings has led to the closing of numerous factories, which again has decreased the demand for machinery and equipment. While tobacco companies are ceasing to operate in some parts of the world, they are expanding in others. This has caused an increase of available second-hand machinery on the market, but unfortunately a lot of it cannot be used since they are specifically designed for the requirements in processing each type of plant.[lxvii] The United States is at the forefront of manufacturing technology advancements and innovations. Many developments have occurred in the computer aided design, machining and quality assurance, programmable logic controllers, management information systems and computerized inventory systems. Newly developed machines are used as part of the product lifecycle control system, which is an information communication system that processes the product’s information at each stage of the production process.[lxviii] Cerulean, a leading manufacturer of quality assurance equipment for the tobacco industry, has recently developed a paper testing machine that can help tobacco manufacturers comply with fire standard protocols. The machine determines whether the paper has low ignition propensity by measuring its carbon dioxide diffusivity.[lxix] Packing and transporting equipment have undergone redesign and advancements to ease these processes. Therefore, manufacturer and supplier relationships are based more on mutual benefit than on price disputes, even though few raw material and final goods substitutes exist. Consumers can buy down during an economic recession abandoning premium higher priced brands for those of the same company or an alternate company’s economy-value or mass marketed options. “If companies can increase the proportion of global brands in the sales mix, profits can grow even when overall volumes fall.”[lxx] Manufacturers, feeling the strain of the economic recession, are creating lower value products for their price sensitive consumers, as they fear completely losing the customer. PMI’s 3rd rank brand is a mid-price cigarette, L&M, and JTI’s 2nd rank brand is an economy cigarette, Mild 7. These discounted cigarettes that “retail for about 45% less than premium brands…have had success in winning over price-sensitive smokers.”[lxxi] Some companies market roll-your-own tobacco products as they are one of the most economic alternatives, facing lower tax rates. Sales in this category have increased by 60% from 2004 to 2009. These market offerings allow the company to gain market share and brand loyalty by selling that same brand to many target markets and segments. Expansion of product offerings include flavored, low tar and slim designed tobacco products. Reduced-odor cigarettes are also winning over cigarette smokers. “Lorrilard Inc. says it will launch a non-menthol variety of its Newport cigarettes in November 2010, leveraging its flagship brand and the industry’s leading menthol offering.”[lxxii] RJ Reynolds Tobacco Company offers the Camel Crush, whose filter allows the smoker to add different levels of menthol flavor to a non-menthol cigarette with just a slight pinch or “crush” of the filter, creating consumer customization without the added cost. This flavored capsule technology has gained popularity in South Korea; within a month of its launch the new product Kent convertible cigarettes gained a market share of over 2.3% in Seoul.[lxxiii] However, some government regulations now call for a ban on specific flavored tobacco products, such as vanilla and berry, as they argue flavored products directly target children. To protect the youth, individuals between the ages of 13 and 15, governments have imposed age limits on tobacco purchases and approximately 76 out of 80 major countries ban underage purchasing of tobacco products. In the United States, retailers are fined for selling tobacco products to any consumer under the age of 18. Also, in the United States, as part of their corporate social responsibility, tobacco companies are funding a $1.5BN 10 year anti-smoking campaign of which $250MM is aimed at reducing youth smoking levels. In Japan, vending machines that dispense cigarettes now require age identification by swiping government issued identification cards to verify age before a purchase can be made. However, youth smoking is prevalent in many countries and approximately 35% of youngsters in the Czech Republic, 20% in New Zealand, 48% in New Guinea, 23% in the United States smoke. Bans on “alcohol and tobacco marketing are among the least effective tactics for combating underage drinking and smoking, according to a Penn State economist, who has studied the effects of advertising since 1985.”[lxxiv] Natural additive-free cigarettes have been launched, appealing to health conscious consumers with brands such as American Spirits. Heavy R&D investments have led to the development of less harmful tobacco products, such as BAT’s snus, a variety of gum and breathe mints. RJ Reynolds distributed a new product, Eclipse, in the United States. It resembles a cigarette; through a special process, it heats the tobacco instead of burning it, allegedly reducing the amount of chemicals released.[lxxv] JTI has created the smokeless Zerostyle cigarette, which sold over 650,000 packs within the first 2 weeks of its launch. The company has doubled their production capacity from 500,000 to 1 million packs per month of this smoking substitute that looks like a cigarette, but is actually a pipe with replaceable cartridges. The product has gained mass appeal as it can be used where smoking is banned, such as flights on Japanese airlines and trains. It may gain more market share as countries tighten the bans. Some countries are banning smoking in private locations; for example, Finland has banned smoking in cars, and in cities throughout the Unites States, high-end apartment buildings are banning smoking in the privacy of your own apartment. The increase in female smokers has influenced the actual design of the cigarette with many manufacturers offering slim versions. These products are now also targeting men. Shorter cigarettes have also been appealing for those who want a quick smoke outdoors due to inside smoking bans.[lxxvi] Other manufacturers have launched new fashionable packages, such as BAT’s limited edition pink colored box of their Pall Mall brand. These package improvements are a direct response to the damaging imagery forced on packages by government mandates that call for warning labels on all tobacco products. In the United States, the Federal Trade Commission requires tobacco product packaging and advertisements to have one of the following 4 warning labels: “Smoking Causes Lung Cancer/ Heart Disease/ Emphysema/ or May Complicate Pregnancy.”[lxxvii] Canada lead the movement to place graphic images on cigarette packaging, hoping to motivate smokers to quit; these disturbing images include a toe tag attached to a corpse, a mother blowing smoke on her baby and a man blowing smoke out of a hole on his neck. Tobacco companies wish to deter the consumers’ attention from the violent and discouraging message and thus continuously improve packaging by making it eye-catching and pleasing, yet useful and streamlined. However, “The ‘Wave Studies of Consumer Behavior and Attitudes to Smoking’…found that the graphic warnings did not increase the number of smokers who looked at the warning; they instead increased the number of smokers who never looked at the warning.”[lxxviii] Tobacco companies are trying to maintain value sales in a time of volume decline. The marketing of smokeless tobacco has been on the rise with products like chewing tobacco and snuff that deliver addictive nicotine without combustion and purportedly present lower health risks. Europe has banned these products, except in Sweden, where they hold strong market share and achieved solid gains in sales with volume growth in 2010. Smokeless tobacco has altered the focus of tobacco manufacturers; for example, “Reynolds American has announced plans to expand the manufacture of smokeless tobacco and close two cigarette plants. Its American Snuff Company unit...is opening a new facility…This is a response to market conditions: in the US cigarette sales are falling and smokeless sales are rising.”[lxxix] All tobacco manufacturers face competition from nicotine substitutes. Nicotine patches and gum have gained market share due to the rise of health consciousness with consumers who wish to quit smoking. Electronic cigarettes are entering this market, but face similar bans and regulations. “Several manufacturers have also put additional focus on product lines outside of cigarettes…Reynolds American in December 2009 purchased Niconovum AB, a Swedish maker of smoking cessation products.”[lxxx] Diversification ia a key competitive advantage in adding to the bottom line as competitive threats decrease profits and excise taxes eat away at net income. Consumers are inundated with choices due to the many products available. The consumer remains brand loyal and rarely switches company regardless of price, partially due to the addictive nature of the product. Approximately 20% of the world’s population buys tobacco products and over 1.3 billion consumers smoke over 4 packs of cigarettes a week. However, analysts call for a decrease in volume use of legal tobacco products due to health consciousness amongst consumers, high excise taxes and black market purchases. Europe and North American markets will decrease whereas the Asian markets, with the exception of Japan where smoking levels have dropped due to an aging population will increase. Use of tobacco products will continue to grow in underdeveloped countries. There is a negative correlation between the level of development in a country and the number of smokers amongst its population. Globally consumer spending on legal tobacco products has decreased in 2009 to $465.6MM from $480.6MM in 2008, excluding black market sales. Demand for cigarettes is fairly inelastic and with consumers continuing to purchase regardless of what research and studies show because “smokers often fudge their answers, and claims about quitting, for instance are only accepted if verified by chemical tests. And asking smokers to recall the number of cigarettes they smoked a day is notoriously unreliable.”[lxxxi] Even though demand is inelastic and forecasts call for positive growth for the tobacco industry, many manufacturers and farmers are researching alternative uses of tobacco. Enzymes genetically engineered in tobacco have proven to treat Gaucher’s disease. “Tobacco could be a good source of protein and oil…tobacco stalks contained the major biomass constituents and cell components common to wood species, making it a suitable material for varied wood-based applications.”[lxxxii] Tobacco may generate new antibiotics and biodegradable plastics. It also proves to be a natural pesticide. All these options allow more diversification, increasing the tobacco industry’s strength, regardless of market and environmental forces. The tobacco industry will remain one of the major global consumer product industries even with declining volume sales because value sales will increase due to the lack of viable substitute goods, income- and price-inelasticity, and ongoing innovation. It will fight off external factors that restrict its trade and perhaps its biggest impediment will be governmental forces. There are hundreds of anti-smoking organizations in the world, including a high number in the United States such as cancer charities, National Center for Tobacco Free Kids, Foundation for a Smokefree America and American Cancer Society. Programs developed by both governments and non-profit organizations have provided smokers with smoking cessation tools, such as patches and lozenges; yet these aggressive attempts have proven unsuccessful. “COMMIT…ASSIST…Hutchinson Smoking Prevention Project…similar anti-tobacco policy failures are to be found in almost every aspect of tobacco control. They did not reduce adolescent consumption or increase attempts to quit, and they did not reduce adult smoking prevalence or consumption. The only policy [of tobacco control] with strong evidence is tax policy.” [lxxxiii] In response to these studies degrading the efforts of the anti-smoking movement, the International Tobacco Control Policy Evaluation Project was formed through a partnership of government health departments, research institutes and pharmaceutical companies. “The project intends to evaluate the effectiveness of several of the key provisions of the FCTC, including health warnings, advertising, packaging and labeling, education, tax measures and public smoking restrictions.” [lxxxiv] One of the biggest challenges facing the tobacco industry is the increased public awareness of the link between smoking and lung cancer and other diseases. Healthy living has established itself in developed states, and increasingly in emerging markets as well.[lxxxv] This challenge is exacerbated by the influence of the anti-smoking lobby. Also posing a threat to the tobacco industry is the WHO’s FCTC, which has been ratified by over 150 countries and represents one of the most widely accepted treaties introduced by the United Nations. According to the FCTC’s official website, the treaty requires parties to the convention to:

enact and undertake comprehensive bans on tobacco advertising, promotion, and sponsorship; ban misleading and deceptive terms on cigarette packaging such as “light”, “low-tar”, and
“mild;” implement rotating health warnings on tobacco packaging that covers at least 30 percent
(ideally 50 percent or more) of the display areas – this may include pictures or pictograms; protect people from tobacco smoke exposure on public transport, and indoor work and public places; adopt or maintain taxation policies aimed at reducing tobacco consumption; and combat illicit trade in tobacco products. This requires monitoring, documenting and controlling product movement as well as including origin and destination information on packaging plus enacting legislation with appropriate penalties and remedies.[lxxxvi]

WHO and FCTC aggressively try to limit tobacco usage and are noticing some volume reduction; yet they cannot seem to curb the demand in China, where premium tobacco purchases have increased over the past 5 years. Tobacco is universally known for its harmful health effects. “Smoking harms nearly every organ of the body. Smoking causes many diseases and reduces the health of smokers in general.”[lxxxvii] According to the Centers for Disease Control and Prevention, cigarette smoking accounts for approximately 20% of all deaths in the United State, 90% of all lung cancer deaths in men and 80% of all lung cancer deaths in women. Smoking and tobacco related products can cause numerous other diseases such as lung diseases, emphysema, bronchitis, non-lung cancers, infertility, preterm delivery, stillbirth and sudden infant death syndrome. A positive correlation exists between the use of tobacco and the onset of strokes, heart attacks and heart disease, clogging of the arteries, peptic ulcers, gum disease, tooth loss, asthma, ear infections, and compromised sexual performance. Tobacco is, however, a booming industry that makes a substantial contribution to the economy through tax revenue, employment, and export earnings in certain countries. Tobacco producers and company shareholders enjoy the profits of a stable industry and many employees depend on tobacco for their income and livelihood. These employees range from farmers, processing and manufacturing employees, retailers, advertisers and shop owners. Tobacco has historically served as a valuable cash crop for farmers due in part to its ability to grow in various climates. However weather conditions can affect the overall output as recently noticed in China and Brazil. “From the autumn of 2009 to early 2010, southwest China – the largest tobacco-growing zone in the country – was visited by a protracted drought. The adverse weather had a very negative impact on tobacco cultivation in the affected regions, and leaf tobacco production faces a reduced output.”[lxxxviii] In Brazil, the quality of the tobacco crop was hindered by severe weather conditions as they experienced periods of excessive rains followed by droughts. Farmers and companies are not the only beneficiaries of this industry. In Turkey and China, tax revenues from tobacco account for more than 10% of all government tax revenues. Tobacco also accounts for a high percentage of FOREX earnings in Malawi and Zimbabwe.[lxxxix] Lobby groups against tobacco argue that the tobacco industry exaggerated their positive economic impact, implying that the tobacco industry fails to mention the costs to government, employers and the environment, including social, welfare and healthcare expenditures. There is also “the loss of foreign exchange in importing cigarettes, loss of land that could be used to grow food, costs of fire and property damage caused by careless smoking, and environmental costs ranging from deforestation to collection of litter left by smokers. [They also contend that smoking leads to] decreased productivity, higher number of accidents and higher insurance premiums.”[xc] Even with all the slanderous protestations made against the tobacco industry it remains inelastic even in times of recession, restrictive government regulations and heightened consumer health fears. The overall forecast for the industry is positive with increased value sales and steady volume sales. Due to environmental changes, market shifts will occur. Falls have dominated throughout Western Europe, North America and the Middle East. Asia instead continues to grow at a steady rate, accounting for at least 35% of all revenues in 2009, taking the top spot away from Europe that has seen a declining market due to smoking bans and consolidation of manufacturing operations. North America also has seen a gradual decline in their share of overall industry revenue, which is also the result of smoking bans, greater government taxes, higher illicit trade and increased consumer health awareness. Although Asia overall is expected to gain market share, many countries within this region will not. Japan is forecasted to continue to decline in revenue due to an aging population, strict smoking bans and high excised taxes. Indonesia, Vietnam, India, Bangladesh and China are at the core of this positive trend in Asia. China will prove to be the leader in this segment as cigarette production continues to rise, prices remain lower than in other countries and the demand for higher priced premium products increase due to higher income earnings. China maintains revenue growth driven by improved price mix. BMI forecasts a minimum volume increase of 10% and value increase of 25% in China, which holds consistent with its recent strong growth in the past few years. China’s sales were 2.070 trillion sticks in 2008, increased to 2.085 trillion in 2009, expected to be 2.112 trillion in 2010 and growing to 2.243 trillion sticks by 2013. Analysts have predicted growth for other Asian countries, but no country has both volume and value growth to the extent China is expected to experience. The lack of a strong anti-tobacco campaign spears China’s growth. A public-place smoking ban does exist; yet “people in Hong Kong have been buying nearly 12 million more cigarettes a month since…the smoking ban was imposed there a year ago.”[xci] Smoking in China has continued to increase and just in the 20 years between 1970 and 1990 it rose over 250%. Tobacco companies are allowed to advertise on billboards and public transportation outlets, as well as sponsor sporting events and license their names to clothing and shoe manufacturers. Consumers are constantly inundated with messages of smoking. In addition, China has over 30% of the world’s smoking population and is the largest producer of cigarettes, producing twice as many cigarettes as the second place manufacturing country, the United States. It will continue to drive global volumes because of its enormous population growth. China’s strong presence “has been a key factor in maintaining industry value added growth;”[xcii] this accentuates China’s potency in this global industry. “China aggressively developed markets throughout Southeast Asia, Eastern Europe, and the Commonwealth of Independent States in the 1990s. At the same time, the Chinese cigarette market remained a difficult one for international competitors to infiltrate.”[xciii] Many manufacturers wish to enter this market as it represents a 2 trillion cigarette stick market and CNTC controls over 97% of the volume share. It is a strong government-owned monopoly but has recently formed some strong alliances, including its alliance with PMI that is not only increasing the number of cigarettes in the local market, but is heightening their presence overseas. China then changed the agreement, forcing all Marlboro products to be produced locally, taking away PMI’s power and cutting into their profitability. Even though PMI is the current leading worldwide company, its brands do not dominate the China market, although they have a strong presence in Hong Kong. Many analysts foresee CNTC entering additional markets outside of China through acquisitions, as its competitors have done in the past. They are also consolidating their brand, which has proven to be a sign of acquisition preparation, to enter the world market with more impact and increase their brand share. China is also the largest tobacco producing nation in the world, supplying annually over 30% of the world’s production. They supply enough to meet all their domestic needs. CNTC has invested in manufacturing processes hoping to increase its production with the implementation of Computer Integrated Manufacturing System (CIMS). “The Chinese manufacturing industry, operating more or less unchallenged on its huge domestic market, is using the financial strength its monopoly position creates to muscle into other markets around the world.”[xciv] Due to its advanced manufacturing processes, annual double-digit revenue increases, a growing smoking population, minimal marketing restrictions, high barriers to outside entrants and a strong government support system, CNTC will be the brand of the future. Although PMI represents the leading tobacco company and brand, they will not be able to overpass China’s growth potential as China creates strong barriers limiting infiltration from competitors. Furthermore, PMI does not have the luxury of volume of consumers and units of products that China experiences. As all the other markets experience slight decreases in volume sales, China’s growth performance remains unhindered as they see value and volume sale increases. CNTC, unlike PMI, does not face litigative forces that limit its business policies. CNTC will be strong enough to carry the emerging Asia market as it solidifies its rankings as the most successful company of the global tobacco industry.

Exhibit A [pic]
Exhibit B [pic]

|Exhibit C |
|GEOGRAPHIC SPREAD Year: 2009 Revenue |
|[pic] | |
| |Region |
| |Percentage |
| | |
| | |
| |[pic] North Asia |
| |35.0 |
| | |
| | |
| |[pic] Europe |
| |27.3 |
| | |
| | |
| |[pic] North America |
| |16.5 |
| | |
| | |
| |[pic] India & Central Asia |
| |5.7 |
| | |
| | |
| |[pic] Africa & Middle East |
| |5.6 |
| | |
| | |
| |[pic] South America |
| |5.5 |
| | |
| | |
| |[pic] South East Asia |
| |2.4 |
| | |
| | |
| |[pic] Oceania |
| |2.0 |
| | |
| | |
| |Taken from IbisWorld Inc “Global Tobacco Product Manufacturing,” 8/6/10, pg 9 |
| | |
| | |

Exhibit D
|[pic] | |
| |Major Player |
| |Market Share Range |
| | |
| |[pic] |
| |Phillip Morris International Inc. |
| |15.5% (2010) |
| | |
| |[pic] |
| |British American Tobacco p.l.c |
| |15.3% (2010) |
| | |
| |[pic] |
| |Japan International Tobacco Inc. |
| |15.1% (2010) |
| | |
| |[pic] |
| |China National Tobacco Corp |
| |14.5% (2010) |
| | |
| |[pic] |
| |Imperial Tobacco Group PLC |
| |9.0% (2010) |
| | |
| |[pic] |
| |Altria Group, Inc. |
| |3.8% (2010) |
| | |
| |[pic] |
| |Other |
| |26.8% (2010) |
| | |
| |Taken from IbisWorld Inc, “Global Tobacco Product Manufacturing,” 8/6/10, pg. 26 |

*PMI acquired Altria in 2008. Combined they make up 19.1% of the market share.

CURRENT PRICES

|2006 |2007 |2008 |2009 |2010 | | |Industry Revenue |*370.0 |*394.2 |*415.9 |*446.3 |*465.6 |$Bill | |Industry Gross Product |*232.9 |*251.5 |*258.2 |*270.2 |*280.3 |$Bill | |Number of Establishments |*438 |*437 |*433 |*428 |*420 |Units | |Number of Enterprises |*129 |*125 |*123 |*121 |*120 |Units | |Employment |*658.9 |*644.5 |*630.7 |*617.7 |*604.9 |Thousands | |Exports |*20.5 |*22.4 |*23.3 |*24.8 |*25.6 |$Bill | |Imports |*20.5 |*22.4 |*23.3 |*24.8 |*25.6 |$Bill | |Total Wages |*10,791.0 |*11,136.8 |*11,058.4 |*11,514.6 |*11,807.8 |$Mill | |Total Assets |N/A |N/A |N/A |N/A |N/A |AUS Dollars Per Tonne | |Domestic Demand |*370.0 |*394.2 |*415.9 |*446.3 |*465.6 |$Bill | |Cigarette production |N/A |N/A |N/A |N/A |N/A |Billion | |

-----------------------
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