Innovation Drives BAT's $47 Billion Bid -- WSJ
October 24 2016 - 3:03AM
Dow Jones News
Offer for Reynolds would provide access to technology behind
cigarette alternatives
By Tripp Mickle
Last week's $47 billion offer by British American Tobacco PLC
for full control of Reynolds American Inc., if accepted, could give
the London-based giant a chance to catch up in a technological race
that is reshaping the industry.
Consumers from the U.S. to Japan have been seeking alternatives
to traditional cigarettes, forcing companies to spend billions of
dollars over the years to create products with fewer risks.
But BAT has slipped behind bigger rival Philip Morris
International Inc., which has found success with a
fountain-pen-size gadget known as iQOS. The device it introduced in
late 2014 sold two million units in Japan over the past year.
Unlike e-cigarettes, which heat nicotine-laced vapor, iQOS is a
battery-powered device that heats cigarettes called Marlboro
HeatSticks. They release a tobacco-flavored vapor that Philip
Morris says reduces by 95% consumers' exposure to harmful
constituents released by burning a regular smoke.
The sales volume of tobacco cigarettes has continued to decline
world-wide, as some smokers cut back, switch to alternatives or
kick the habit.
The HeatSticks have claimed 4.3% of Japan's cigarette market
share and cut into cigarette sales of rivals such as Japan Tobacco
Inc. and BAT, Philip Morris says. "They're eating market share in
Tokyo at a pace we haven't seen in years," said David Sweanor, a
tobacco-control expert and professor of law at the University of
Ottawa.
Acquiring Reynolds, which has been spending heavily on research
and development since the 1980s, could allow BAT to catch up,
according to Wells Fargo tobacco analyst Bonnie Herzog.
Reynolds, which is based in Winston-Salem, N.C., said Friday
that its board will evaluate the offer and respond. Analysts expect
negotiations between Reynolds and BAT to result in a higher offer
price.
BAT and Reynolds didn't immediately reply to requests for
comment on Sunday.
Before Philip Morris introduced iQOS, Reynolds was regarded as
the industry's leader in research and development. Reynolds
pioneered the heat-not-burn category in 1989 when it introduced
Premier -- a cigarette product so unpalatable even its own
executives disliked the taste. More recently, it developed its own
e-cig device, Vuse, that it manufactures in the U.S.
BAT has a technology-sharing agreement with Reynolds that allows
the companies to license vapor products and collaborate on research
and development, but acquiring Reynolds would give BAT a pipeline
of products, policy advisers and leading scientists it wouldn't
otherwise have, Mr. Sweanor said.
"This isn't the sole reason to buy Reynolds, but it's a critical
factor, " Mr. Sweanor said. "This industry is in the midst of
massive transition and companies that get this right are going to
succeed while those that don't will go the way of Kodak."
Global sales of e-cigarettes have also been slowing, with many
consumers trying and abandoning the products because they failed to
provide the same flavor and nicotine effect as traditional
smokes.
Liquid-heating e-cigs last year generated $8 billion in sales,
up just 23% from a year earlier after growing an average of more
than 70% over the previous three years, according to Euromonitor
International.
Rather than releasing its own e-cig product in recent years,
Philip Morris poured more than $2 billion into research and
development aimed at producing a healthier cigarette alternative
that more closely mirrored the taste and feel of a cigarette. It
hired hundreds of people from the pharmaceutical industry and did
extensive, peer-reviewed research to determine the health effects
of iQOS.
Encouraged by the success in Japan, Philip Morris Chief
Executive André Calantzopoulos told investors in September that he
expects iQOS and Marlboro HeatSticks to add a potential $700
million to $1.2 billion in operating income by 2020.
The company, which will be selling iQOS across 20 markets by the
end of the year, plans to submit millions of pages of research to
the U.S. Food and Drug Administration in the coming months in hopes
of gaining approval to sell the device in the U.S.
"The task is certainly enormous, but the size of the prize is
worth every effort," Mr. Calantzopoulos said last month.
Write to Tripp Mickle at Tripp.Mickle@wsj.com
(END) Dow Jones Newswires
October 24, 2016 02:48 ET (06:48 GMT)
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