For the Long Haul

    Photo: BAT

    Sustainability, strategy and survival in the tobacco market

    By Clive Bates

    Before delving into what sustainability means for the tobacco market, we must first ask what the word itself means. A good starting point is an observation of the French philosopher Luc Ferry: “I know that this term is obligatory, but I find it also absurd, or rather so vague that it says nothing.”

    Ferry captures the problem well. It is often taken as a green concept, promoting enlightened practices on energy and emissions, waste and recycling and raw materials in the supply chain. A more evolved definition considers social and economic impacts. This has led to a steady output of sustainability reports from major businesses, increasingly with feedback into operations with a view to improving over time and avoiding the wrong half of sustainability league tables. This is all good, but is it good enough?

    I favor a more hard-nosed definition of business sustainability. It would be a variation of the concept defined by one of the pioneers of sustainable development, Gro Harlem Brundtland, in 1987: “Sustainable development is development that meets the needs of the present without compromising the ability of future generations to meet their own needs.”

    Brundtland was referring to nations or to the whole world, but that formulation can be repurposed for a business. If the goal of a business is to generate shareholder value (the value of its stock and flow of dividends) then a reasonable equivalent would be to sustain and grow shareholder value over the longer term. Ultimately, sustainability is about designing and executing a corporate strategy that builds resilience and long-termism into a business but not at the expense of today’s shareholders. One reason why a tobacco company cannot just pull out of cigarettes and concentrate on new products is that the shareholders would fire the management, the company would be taken over or the cigarette assets sold as a going concern.

    What does this concept of sustainability mean? We can start with what it does not mean: It does not mean the single-minded pursuit of quarterly earnings at the expense of all wider concerns. “Shareholder value” embodies a range of important but less tangible elements that are reflected in the price of a stock. These include numerous market judgments on the future earnings of the company and its resilience to changes in the marketplace. Nor can it be oblivious to the concerns of stakeholders who are not shareholders, including customers, employees, politicians and public health organizations. They frame the operating context and confer the license to operate.

    Here are six questions I would ask any company about its sustainability in the tobacco market:

    1. How robust is the company’s approach to the mitigation of litigation risks? No one really denies that about 8 million people die annually from smoking-related diseases. But who is responsible and accountable for that? Plaintiffs and their lawyers will continue to stalk companies and hold them to account for their past and present behavior. Litigation in the early 2000s had a powerful suppressing effect on shareholder value and at times looked like an existential threat. Part of litigation risk mitigation is to be scrupulously honest in describing products and their risks, to be responsible in marketing and promotion, and to provide a range of low-risk alternatives with encouragement for smokers to switch. The conduct of companies that make products that are harmful and open to abuse will always be under scrutiny, often in the courts of law but always in the court of public opinion.
    2. How resilient is the company strategy to political and regulatory pressures? Governments permit, regulate and tax the most dangerous nicotine products, cigarettes, in every country in the world (even in Bhutan, which recently rescinded its longstanding prohibition of tobacco). While that mandate persists, there will be companies lawfully selling cigarettes. But as the low-risk alternatives rise in popularity, governments will be increasingly emboldened to take stronger regulatory actions against cigarettes, for example, in setting reduced-nicotine standards. Many advocates of such policies now argue that highly restrictive measures are becoming feasible as smokers have a range of low-risk and acceptable alternatives to switch to. Prohibitions without alternatives just lead to black markets. For tobacco businesses, the low-risk alternatives to smoking simultaneously threaten to hasten the end of cigarettes but also provide the opportunity in an emerging, and potentially larger, market for much safer smoke-free recreational nicotine.
    3. How well positioned is the company for changes in consumer preferences? What happens if the pace of migration from high-risk cigarettes to low-risk vaping, heated or smokeless nicotine products accelerates? What if there are tipping points when a critical mass of users makes the alternatives become rapidly ubiquitous? Which companies are poised to prevail? In a fast-moving consumer goods market, companies must ask what the consumer really wants and does not want. It is undeniable that many enjoy smoking, but if we break down that experience into different elements, what do they really want: a satisfying nicotine experience; a sensory experience and flavor; behavioral rituals; a social medium; elements of personal identity and group affinity? How can that be offered without cancer, cardiovascular disease and lung disease? Without stigma and social barriers?
    4. In a changing market, how well is the company positioned to gain or defend market share from competitors? I recently heard a tobacco executive say, “We have 25 percent of the cigarette market, but with our new products, I’m going after the other 75 percent.” That was a sharp reminder that in a radically disrupted market, no one can count on brand loyalty, and even the mightiest brand equities count for little. The aggressively sustainable company looks at disruption and sees opportunity to build future shareholder value. In contrast, the passive profit-seeker may find its grasp on its once-loyal customers is not as strong as it thought. How promising is the company’s portfolio of products in the more febrile markets for smoke-free alternatives? How strong is the product pipeline in R&D? What approach is the company taking to synergistic acquisitions of promising companies and their intellectual property?
    5. Who wants to work for this company? It is a tiresome management cliche to say that “our company is our people.” But it is also right, and especially over the longer term. A sustainable company needs to develop, retain and attract talent at every level and in every area. That is ultimately where its longer term value will be created. The staff in the companies today bear little resemblance to the famously pictured lineup of CEOs testifying to Congress in 1994 (with apologies to industry veterans), but many are younger, sharper and motivated by change for the better. Many see themselves as quiet revolutionaries from within—and not always quiet. The ability to attract top quality, highly motivated staff at affordable salaries will be increasingly about how the companies are looking to the future and how they will ultimately shed their reputational baggage.
    6. Does the board have a convincing vision? In Alice’s Adventures in Wonderland by Lewis Carroll, the Cheshire Cat argues, “If you don’t know where you’re going, any road will get you there.” When the board meets, how often does it raise its collective gaze to the horizon and beyond? When it does this, what does it see and how does that affect what it does today, this month and this year? It makes a big difference if the board sees new products as line extensions and a neat new consumer segment or if it sees a structural transition from smoked to smoke-free nicotine products underway and gathering pace.

    But what is a sustainable vision for the nicotine market? It goes beyond tobacco harm reduction, which is an important phase in the transition from combustible to noncombustible products. For the long term, I expect we will see a stable business model based on a (grudging) societal acceptance that nicotine is a legal and legitimate recreational stimulant with relatively benign side effects (no intoxication, violence, incapacitation, loss of control, etc.). The challenge for the tobacco market is to make this drug available in a way that is acceptably safe. That does not mean completely safe. It means within the normal societal appetite for recreational risks. In this vision, smoking would have declined to minimal levels primarily through consumer preferences for much safer but satisfying alternatives to cigarettes driven by continuing innovation. Regulators could put a thumb on the scale to tilt the market toward the safer products, but they will have no need to use the iron fist of prohibition. It will also require a rethink in public health groups that resist everything the tobacco companies do by default. They believe there is an irreconcilable conflict between the interests of tobacco companies and public health. In my view, they are wrong.

    There are still some who think sustainability is about corporate social responsibility. In the tobacco market, it is more than that: It’s about strategy and survival.

     

    The theme of GTNF 2021 (Sept. 21–23, 2021, in London) is Continuing Change: Innovation & Sustainability.