Financial Analyst to Investors: Bet On Big Tobacco

Wells Fargo expert says Altria and Reynolds are negotiating privately with the FDA

Crushed Cigarettes

An honest assessment

Want a reliable objective opinion on what will happen if vapers fail in our challenges to the FDA’s deeming regulations? Ask Wall Street. Investment analysts aren’t paid to take political stances. Their jobs require they honestly assess the information available, and offer as clear a picture as possible to benefit people making financial investment decisions.

Bonnie Herzog is a senior analyst at Wells Fargo, widely respected for her knowledge of the tobacco sector. She has the ear of people who every day risk what would be fortunes for you or I. On August 8 — Deeming Day — she issued an 11-page report that provided an investor’s-eye view of the probable future of the vape industry. Titled “Good For the Goose, Less For the Gander,” the document spells out the future of the vaping business in bold black letters.

"The cost and complexity of compliance"


“While the final deeming e-cig regulation brings much needed structure and oversight to the e-cig/vapor category,” Herzog writes, “There is little doubt that the cost and complexity of compliance overwhelmingly favor big tobacco (the goose) at the expense of smaller, less well funded players (the gander). MO [the New York Stock Exchange symbol for Altria, parent company to Philip Morris USA] and RAI [Reynolds American, Inc. — better known as RJ Reynolds] are, as expected, ahead of the game with RAI having launched “numerous” VUSE formats ahead of today’s Aug 8 deadline – the date after which no new products can be sold without FDA authorization, and MO persuading the FDA to not enforce a descriptor ban on its Black & Mild cigar brand, demonstrating its command of the issues and legal acumen.”

So, Altria has “persuaded” the FDA to not enforce its regulation preventing use of the term “mild”? Do you think any vapor products companies have the connections to pull off something like that?

“Both MO & RAI appear well prepared to comply with the FDA’s deeming regs if not benefit from potential category consolidation,” Herzog states. “That said, the companies are rightfully taking the longer view as they actively work with the FDA to ensure a rich environment for innovation and healthy competition. As such, we reiterate our Overweight sector rating and Outperform ratings on RAI given its strong VUSE positioning, and MO given its opportunity with iQOS.” iQOS is Philip Morris’s heat-not-burn product, already grabbing market share from combustible cigarettes in Japan.

"Deeming Regs Are a Clear 'Win' for Big Tobacco"

We were pleased to hear both companies reporting that the FDA is “open to listening,” “not immune,” and “more straightforward” than it would appear. As such, we are increasingly optimistic that the ultimate outcome won’t be as deleterious to the category or as burdensome as we originally feared.

We expect to see a continued shift in consumption of e-cigs/vapor back to combustible cigs as e-cig choices become more limited — a net ‘win’ for big tobacco. This has continued to baffle us given the FDA’s public health priorities.

We expect further e-cig/vapor consolidation and, as a result, manufacturers’ pricing power and retail leverage to increase with MO and RAI best positioned given their scale and capabilities.

As Is, Deeming Regs Are A Clear ‘Win’ For Big Tobacco, Not Necessarily Public Health.

Our main concern remains that the final deeming e-cig regs will realistically stifle innovation, which could dramatically slow industry growth by dis-incentivizing consumer conversion from combustible cigs to e-cigs. This ultimately has a net negative impact on public health, which is
clearly in direct opposition to the FDA’s goal.

First off, we believe the sweep of the new regulation has been a real blow to the broader vapor industry, particularly smaller, less well-funded players, and innovation more broadly, given the costly and time consuming requirements and because innovation will likely be stifled. While perhaps not hugely evident yet, we believe many small industry players will be forced out of business as a result which has been foreshadowed by several announced leadership departures at many companies and industry/trade groups.

On the FDA front, MO likewise reports itself to be “well-prepared” to meet requirements under the new regulations. Both Nu Mark and Middleton (MO’s cigar business) are working on compliance and are actively engaging with FDA regulators and “other stakeholders” to advocate for changes to the regs.

The FDA is “open to listening to reasonable arguments”

Both MO & RAI report active engagement with the FDA on a number of fronts, including: (1) clarification of the process, (2) preventing the new regs from stifling innovation, (3) amending the 2007 predicate date given that most vapor products currently sold “basically came into the marketplace after 2007,” and (4) ensuring that the regs stay true to the underlying ‘continuum of risk’ principle espoused by FDA Tobacco Director Mitch Zeller: “Anyone who would ponder the endgame must acknowledge that the continuum of risk exists and pursue strategies that are designed to drive consumers from the most deadly and dangerous to the least harmful forms of nicotine delivery.”

Short of lawsuits (the FDA is reportedly already facing many) and legislative action (namely, the Cole-Bishop Amendment) prevailing, we believe MO & RAI lend considerable weight to current stakeholder discussions with the FDA to rethink some of the more strident areas of the regulation.

MO says it has found the FDA to be “open to listening to reasonable arguments” and “not immune from listening to different points of view and coming to some reasoned judgment.” On a positive note, RAI reports “a lot of signaling” that suggests the FDA process will be “more straightforward” than previously feared. MO, for its part, has successfully persuaded the FDA to not enforce a descriptor ban on its Black & Mild cigar brand (The FDA had purported that deeming regs’ ban on cigarettes from using the terms “mild,” “light” and “low” on product labels extended to cigars). We believe the implications will be far-reaching in that the matter demonstrated MO’s clear command of the issues, influence and legal acumen relative to the FDA. Given MO & RAI’s interest in growing the industry, we expect they will play an active role in any regulatory reshaping that occurs.

Furthermore, we find it interesting that February 15, 2007 was set as the predicate date as it was originally set as the predicate date for the Tobacco Control Act of 2009. Bottom line – Whether intended to or not, we believe the FDA has effectively (even if inadvertently) engaged in a form of protectionism that favors big tobacco/combustible cigs, shielding the top players from incursions by smaller players and thereby stifling much-needed competition.

The future of vaping?

Financial Graph

The companies that together make up what America calls Big Tobacco are moving full steam ahead into the vapor space, and they know exactly how to handle the FDA. What Herzog refers to as the “cost and complexity of compliance” is exactly what Reynolds and Altria know best. It’s the pond they swim in.

Since the Tobacco Control Act passed in 2009, Reynolds and Altria have consolidated their power and learned to play expertly in the world of pharma-like tobacco regulations. The numerous competitors they had in 2009 are mostly gone now, bought out by the big boys or crushed by their inability to survive the “cost and complexity of compliance.”

They know the FDA and the FDA knows them. When they tell a Wells Fargo analyst that they’re negotiating terms of compliance with the FDA, they’re not blowing smoke. We’re fighting the FDA in court and trying to change the law — and we’re doing it without much money or political support — but the good old boys at Big Tobacco skip right past arguing right and wrong and start negotiating. Because they’re part of the same game, the same system, the same world of complex regulations and high-powered lawyers negotiating terms of compliance.

Nothing about us without us!

Protest No

Bonnie Herzog says Reynolds and Altria are “engaging” the FDA, “preventing the new regs from stifling innovation,” but if anyone thinks the innovation they’re interested in will include small e-liquid companies or vape shops, forget it. They’re not talking to any vapor trade groups, or the AVA. What about consumers? Think CASAA is at the meetings? We’re not even in the mix at those talks.

To keep any chunk of what we have now, we’re going to have to slog it out in court, recruit more smokers to vaping, and write letters and make calls to Congress. We’re going to have to raise money. We’re going to have to suspend our doubt, and trust that with enough passion and belief we can stop the regulatory steamroller coming our way.

It should make vapers mad that huge corporations — the very companies that have profited at the expense of millions of dead smokers — are now trying to speak as though they represent our interests. They don’t represent us.

They don’t represent our industry. And they sure don’t represent vapers — our concerns, our lives, our choice to not smoke. In past struggles when laws or regulations or ideas were forced upon an unrepresented group of stakeholders, protesters took up the cry, “Nothing about us without us!”

We need to start shouting. Right now.

Jim McDonald
I spend most of my time studying the regulatory, legislative and scientific challenges to vaping, advocating for our right to exist, and talking with others who do the same. Consider me a source for information, and feel free to agree or disagree with anything I say. I love good coffee and sweet Michigan cherries. My childhood hero was Gordie Howe.
  • Jeff Kendall

    Well said. Great stuff

  • Anthony Falk

    Great piece but sadly we HAVE BEEN SHOUTING screaming and crying all along… for years now, and been trumped at every turn by big tobacco and big pharma’s deep wallets supported by the governments endless lust after their vanishing blood money as vapers abandon combustible tobacco products. I’m convinced that the FDA mandate has Never been about safety in any meaningful way — it is all of it, about the money.

    • Jim McDonald

      Keep shouting.

  • Jamal Mahmoud

    Big Tobacco is paying off the FDA. These new regulations are just dictators flexing their muscles. Several years ago in 2008, the FDA made a test a small number of e-cigarettes. They found levels of known carcinogens and toxic chemicals. Yes, this might be true, but can the FDA tell us what product and brand of e-cigarettes they found chemicals. Diethylene glycol was found at 1% level; that is in the liquid or when someone vapes? Can someone tell me what happened to reality? A mockery that disguises itself as free enterprise. I thought we lived in a capitalistic society. I guess this principle does not apply to small people.

    Here is interesting fact, in 2010, “the FDA had cited no evident to show the electronic cigarettes harmed anyone.” That is what we have been arguing since vaping was introduce to us in 2007.

    Ray Story of the Tobacco Vapor Electronic Association (TVECA) got it right, “This is a big blow to public health,” he said. “When you see everyone switching back to conventional tobacco, the pharmaceutical industry will be happy, since they will now have an endless supply of new customers.” That’s what we need to rejuvenate our economy more sick people to produce more jobs [sic].

    The FDA is damaging an industry that has helped millions quit smoking cigarettes. Big Tobacco and Big Pharma are ecstatic about the new regulations. Now, people who were vaping e-cigs could go back to cancer ridden cigarettes. And the pharmaceuticals companies can have more clients to deal because in the end, they will have cancer. And with cancer comes money to buy pharmaceutical drugs.

    In the warriors code there is no surrender!

    Here is three-minute read on tobacco smokers should choose liquid electronic cigarette as an effective alternative.