By Xavier Kong
The tobacco sector has been looking at increasing competition coming from the vaping industry, which is gaining traction and becoming increasingly popular amongst Malaysian consumers. How will the tobacco sector fare against the disruption caused by this innovation?
Sector background: The tobacco sector operates as one of the sin sectors in Malaysia, alongside the gaming sector which features Genting Malaysia Bhd, Berjaya Sports Toto Bhd and Magnum Bhd. At the moment, there is only one listed tobacco company in Malaysia, namely British American Tobacco (Malaysia) Bhd (BAT).
While BAT, responsible for Dunhill, Kent, and Pall Mall, may be the only listed tobacco player in the sector, it is by no means the only player. Joining BAT in the local tobacco market are Japan Tobacco International (JTI), which fields Mevius, Winston and Camel, and Philip Morris International (PMI), which offers Marlboro, L&M and Sampoerna.
JTI previously listed as JT International Bhd. It had disappeared from the Main Board of Bursa Malaysia in May 2014, when its parent made an offer to take it private at the beginning of April 2014.
Other than the fear of excise duty hikes, which has pressured the margins of the tobacco players, legitimate players are also faced with the additional pressure from illicit cigarettes, which continue to affect BAT, JTI and PMI despite the best efforts of the Royal Malaysian Customs.
The issue remains that illicit puffs tend to be available to the consumer at a cheaper rate than the legitimate variant, which usually draws consumers towards the cheaper puff.
However, while the tobacco industry has always been facing pressure from illicit cigarettes, the pressure on the margins of the tobacco companies is not likely to let up with the recent addition of yet another player in the field, namely the vaping industry.
Vaping, in the context of the Malaysian market, refers to the use of second-generation devices utilising the “open tank system” alongside vape juice/E-juice/liquid nicotine as a replacement for traditional cigarettes, or used as cessation devices. The current estimate stands at more than 400,000 adult vapers in Malaysia alone.
The vaping industry has, so far, not seen anything in terms of a regulatory stance, which places the big three tobacco players in a bad place, due to the need to comply with the goods and services tax as well as the excise duty imposed on them, which they then pass on to their consumers.
What analysts think: Analysts believe that the vaping culture will impact local tobacco players, due largely to the lack of a decision on the regulations regarding their usage. It is estimated that the compound annual growth rate of the vaping industry will hit 29.3% by 2019. As of 2014, the vaping industry was valued at US$6 billion (RM24.8 billion), with more than 13 million users around the world.
Hong Leong IB noted that part of the reasons vaping has caught on is due to the cost savings in vaping over smoking. As it stands, a 30ml bottle of E-juice can last up to two weeks, depending on consumption and only costs between RM40 and RM60 for that amount.
The research house noted that for a a-pack-a-day smoker of premium cigarettes, which come up to RM13.80 per pack, the smoker is spending RM414 a month on cigarettes. Conversely, with the prices stated above for E-juice, even with the assumption that the vaper consumes five bottles per month, still brings the total cost to between RM200 and RM300, which “represents a 28% to 50% saving to the existing a-pack-a-day smoker”, with the assumption that local E-juice is purchased.
“However, there is the associated one off start-up cost of about RM300 to RM1000,” said HLIB, noting that the amount is variable depending on the tank system purchased.
Noted as well was on how the vaping industry has enjoyed several boons to its almost viral spread. A tip of the hat to the power of social media and the Internet, which has helped in reducing capital for vendors while still reaching out to a large audience, who happens to be the target audience of the vaping industry.
At the same time, many local entrepreneurs hopped on to the industry due to the fact that no regulation or excise duty to be worried about.
“Mods and tanks can be obtained in bulk with relative ease from Alibaba and the likes to start up a small operation,” noted HLIB, adding that the components can easily be cloned within weeks, thus allowing for a further spread in terms of pricing.
“Consumers who would have been ‘priced’ out of the market by expensive high grade European/American open-tank systems could enter the market at the clone level at a significant discount,” said HLIB, with the notation that clones can be acquired at a discount of up to 80% of the original’s price.
Another item to note is that vaping goes beyond smoking and was described by HLIB as a new niche made up of the amalgamation of the tobacco, consumer electronics and pharmaceutical sectors.
“It offers the consumer much more as a product than just nicotine. Mods and tanks come in a variety of form and capabilities and shares some parallels with consumer electronic demand, where technological developments leading to new features fosters fast turnover/upgrading rates. Furthermore, its positioning as a cessation device portrays it in the same light as cessation pharmaceutical products such as nicotine gum and patches,” said HLIB.
Still, the introduction of the vaping industry has impacted the tobacco sector, with the advent of vaping “adding a new dimension to the existing pressures on the legal industry volume”.
“We believe that whereas previously, downtrading would’ve occurred between premium and value-for-money brands, now switching between smoking cigarettes and vaping is a reality,” said HLIB, adding that the vaper demographic consists of existing smokers and former smokers.
“Those who have quit smoking and only vape are forever lost to the tobacco players, whilst the dual users are splitting their nicotine consumption budget between the two industries,” noted HLIB.
Peer comparison:
StockStalk: While the vaping industry does seem to be packing quite a punch upon its entry, it should still be noted that the vaping industry has not yet seen any regulation. This has allowed vendors to make their offerings at relatively lower prices.
Still, it is anticipated that vaping will see regulations cross its path one way or another, either in the form of a ban, as seems to be the pattern for disruptive introductions in Malaysia, or in the form of rules and regulations being crafted for it.
With banning, it is the opinion of HLIB that the vaping industry will just move underground, where “vaping will continue to take some market shares from the tobacco industry akin to illicit cigarettes, adding further pressure to the legal market and eroding potential government revenues”.
On the other hand, should the industry be regulated instead, it may be the green light needed for the local big three to hop on. However, should the big three decide to partake in the vape industry then, they would have to compete with established local players for market share, though they would also carry the advantage of established distribution channels.
It should also be noted that the parent companies of the local big three either already own, or have recently acquired e-cig/vaping lines, allowing them to capitalise on the move to vaping. However, BAT, JTI and PMI in Malaysia are holding back, likely due to the lack of regulations seen in the vaping industry at the moment.
Still, the tobacco sector represents a solid industry that is not likely to disappear anytime soon. However, this carries the caveat that the industry adapt well to disruptive technologies and innovations in the sector, which, in all honesty, last happened when menthol capsules were introduced to cigarette filters.
As such, it all comes down to the government, as well as the corporations. Are they willing to adapt? If they both are, the industry may well be looking at a phase of evolution. If not, the industry would be looking at additional illicit pressure, while the government would be looking at eroded revenue.
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Important Note and Disclaimer: This article should NOT be taken as a cue to either buy or sell any stocks. The intention is to highlight the key factors you might want to think about before plunging in or scrambling out. While KINIBIZ makes every endeavour to ensure facts are right and opinion is fair, no liability can be assumed for anyone relying on this information. In other words let the buyer (or seller) beware — a reflection of Bursa Malaysia, we say.
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