BAT and peers facing fast-shrinking legitimate total industry volume

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This article first appeared in The Edge Financial Daily, on October 8, 2015.


British American Tobacco (M) Bhd
(Oct 7, RM63.20)

Maintain hold with an unchanged fair value of RM68.60: The Wall Street Journal yesterday reported that the United States, Japan and 10 other countries in the Pacific Rim had reached a deal to lower trade barriers to goods and services under the Trans-Pacific Partnership agreement (TPP).

It is the world’s largest free trade agreement, involving two-fifths of the global economy. The deal still has to be ratified by the 12 countries involved.

While details of the deal and Malaysia’s participation remain sketchy, we gather that the agreement has built in protection for tobacco measures, a move spurred by Malaysia’ s proposal for a full carve-out of tobacco from the TPP agreement back in August 2013.

The Southeast Asia Tobacco Control Alliance and various public health organisations had supported Malaysia’s proposal, reasoning that: i) trade and investment agreements are widely used by tobacco players to challenge government measures consistent with World Health Organization’s Framework Convention on Tobacco Control , and rally the government’s support for challenges of tobacco control measures; ii) the ensuing litigation to defend those measures would drain government resources and iii) the tobacco industry lobbies for stronger rules to protect its own commercial interests.

We understand that the present deal includes an exemption of the Investor-state dispute settlement (ISDS) mechanism for tobacco — a major point of contention — as the US had formally proposed an exemption last week, signalling a change in its stance from when negotiations began in 2008.

The ISDS essentially allows investors to take governments to arbitration, and is currently being used by tobacco multinationals like Philip Morris to sue Australia and Uruguay over packaging regulations. We view this development as “neutral” for British American Tobacco (M) — BAT — as legally, it remains status quo.

While regulations are a threat to the domestic tobacco industry, a more pressing problem for the sector would be the rapidly shrinking legitimate total industry volume pie.

We are leaving our financial year 2015 (FY15) to FY17 earnings estimates unchanged for now pending BAT’s second quarter financial year results announcement and news flow from the upcoming Budget 2017 tabling. — AmResearch, Oct 6