Carwasher. Net: Tobacco Talk U.S. Tobacco Trade Survey - Battle of the Brands Intensifying

Carwasher. Net: Tobacco Talk U.S. Tobacco Trade Survey - Battle of the Brands Intensifying

Tobacco Talk U.S. Tobacco Trade Survey - Battle of the Brands Intensifying

Hi,

Battle of the Brands Could Turn Into a "Blood Bath" as Promotional Activity Intensifies Among 2^nd Tier Brands - We recently conducted a survey of tobacco industry retail and wholesale trade contacts representing thousands of retail locations. The majority of our respondents indicated that promotional activity behind 2nd-tier brands such as Pall Mall, L&M and Marlboro Special Blends has increased. As a result, volume trends have generally been positive; however, we have become increasingly  concerned that margins could be pressured. PM USA appears to have stepped up its game with L&M and promo spending behind Marlboro Special Blends continues to be aggressive which could result in Marlboro share starting to stabilize. Despite increased spending by PM USA, we anticipate share gains and PM USA’s cost saving initiatives should more than offset margin pressure. We are upgrading MO to an Outperform rating due to a better balance of stabilizing Marlboro market share and growing profitably and we are downgrading RAI to a Market Perform rating due to our concerns that Pall Mall is under siege.

Pall Mall Fights to Defend its Turf with Increased Promotions, But Volume Growth Appears to be Slowing- Given heightened promotional activity among the 2^nd tier brands, Pall Mall is under siege. Given that Pall Mall is RAI's largest cigarette brand, we believe it has the most to lose as this battle continues to heat up. To defend its turf, RJR will need to continue to increase its promotional support behind Pall Mall which could put pressure on its margins in the near term. Although we believe Pall Mall continues to resonate with value-seeking consumers, the brand is not immune to competitive pressures and therefore, we are projecting a deceleration in the brand’s growth. As such, we have lowered our volume growth forecast for Pall Mall in FY12.

Growth in Newport Red Being Bought - More Promotions to Come in April - According to our industry trade contacts, Newport Red is typically priced in between the premium and 2nd-tier brands. Although the brand’s ~1% market share has held despite the 20% price increase taken in 3Q11, it appears that the brand is still being heavily promoted. Lorillard is planning further promotional support on this brand, starting in April, which would position Newport Red closer towards the value price segment.Retailers expressed concern with the ability for Newport Red to continue to grow once the promotional support behind it is reduced or eliminated. One retail trade contact expects Newport Red volume to “sink” if the promotional support behind it is dialed down.

Downtrading Trend Continues to Pressure the Premium Category - As consumers remain stretched despite the muted economic recovery, retailers noted downtrading pressure continues on premium brands. Also, several retailers noted increased activity in the lower priced segment (3rd and 4th-tier brands). However, given a relatively narrow price gap, we don’t anticipate significant downtrading will  occur from the premium segment.

C-Store Chain Couche-Tard Launches Private Label Brand in Response to MLP – Other Retailers Could Follow Suit - Canadian retailer Alimentation Couche-Tard recently launched a private-label cigarette in all its U.S. regions under the Crown brand. This action was in response to PM USA's MLP and/or Marlboro Performance Options that force retailers to reduce markups in exchange for other back-end incentives. According to management, the Crown brand has exceeded its year target after only five weeks on the shelves.

Please call or email me with any questions.

Thanks!

Bonnie

Bonnie Herzog

Managing Director

Beverage, Tobacco & Consumer Research

Wells Fargo Securities, LLC

375 Park Ave

New York, NY 10152

Phone: (212) 214-5051

bonnie.herzog@wellsfargo.com

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