Getting Littler?

Taxation, loopholes biting into sales of little cigars.

By  Jeremy Seth Davis, Freelance writer

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Putting Up a Fight

Little-cigar makers are not writing their obituaries. They are countering with new product and sales innovations to drive the market in spite of high taxation rates and the threat of increased FDA restric­tions. José Blanco, senior vice president of Joya de Nicaragua S.A., told CSP that more companies are relying on machine-made sticks instead of higher-priced hand-rolled cigars to keep costs down and profit margins up.

Cigar companies are also reducing the size of their cigar packs in reaction to the slow economy. Jane Green of Swisher says the company’s biggest challenges are the strains from a tough economy. “Higher taxes force higher prices at a time when consumers have less money in their pockets,” she says. To combat this, Swisher has responded with smaller pack sizes, especially two or three cigars per pack. Single-sale boxes continue to be a staple on the other tobacco products (OTP) set, she says.

In addition to greater machine use and smaller pack sizes, flavored cigars are a growing category within the little-cigar market.

The Centers for Disease Control, which has accused cigar companies of using flavored cigars to target youth and young adults, may influence the FDA’s regulatory policies. This claim infuriates cigar makers. “That’s just not true,” says Craig Williamson, vice president of the Cigar Association of America. “Many of these flavors have been around for over 100 years.”

Kretek’s Geoghegan sees flavor regulations having significant consequences on the little-cigar market. “It could be very dif­ficult for certain companies to maintain their current market share if the FDA makes the move to ban flavors in little cigars,” he says.

If the agency, whose laboriously slow pace on policy has been roundly criticized by the tobacco industry for spurring enormous uncertainty, goes that route, it will be a significant undertaking. “If the FDA is going to ban flavors in little cigars, they will need to figure out how they will define flavors and how they plan to regulate that,” Geoghegan says. For instance, would industry staples such as wine and grape—or flavors such as cognac and pipe, which have existed in cigars for more than 200 years—suddenly be barred? Other industry observers, including Blanco, feel the changes might affect only how little cigars can be marketed to the public. “The expectation that many observers have about flavors is that the FDA will make manufacturers shift from using names of specific descriptive flavors such as vanilla, chocolate or cherry, to using ‘concept names’ such as, for instance, ‘purple passion,’ ” he says. “This will be fine if you only make a few flavors, but if you’re a company like Phillies [which makes a large number of flavors], this will make it a lot more difficult for you.”

Because of disparities in the federal taxation of tobacco prod­ucts, little-cigar manufacturers have seen cost-conscious con­sumers spend their money on less heavily taxed large cigars over the past couple of years. A study on tobacco taxes titled “Tobacco Taxes: Large Disparities in Rates for Smoking Products Trigger Significant Market Shifts to Avoid Higher Taxes” was performed by the non-partisan federal Government Accountability Office (GAO) and released April 18, 2012. According to the study, little-cigar sales fell from 430 million cigars in January 2009 to 60 million cigars in September 2011. Over the same time period, large-cigar sales more than doubled, soaring from 411 million to more than 1 billion cigars sold.

SCHIP and Tobacco

The problems with tax discrepancies and FDA regulation began in 2009 with the passage of the Family Smoking and Tobacco Control Act. Written into law in June of that year, the bill gave the FDA full power to regulate not just cigarette companies but also the entire tobacco industry, allowing it to control facets of the business from tobacco product ingredients to advertis­ing. Before that, the Fair and Equitable Tobacco Reform Act (FETRA) was enacted in 2004, mandating industry assessments for the next decade to fund the improvement of big tobacco business. From 2004 to 2014, the cigar industry was estimated to pay $282 million toward the maximum $10.14 billion assess­ment, which is a steep price to pay, according to Williamson.

Blanco says the entire cigar industry achieves about $600 million in annual sales. By way of comparison, he estimates the cigarette industry is about $88 billion in annual sales.

As small as the little-cigar market is now, it continues to face ongoing challenges. In speaking with CSP earlier this year, Lou Maiellano, president of TAZ Marketing & Consulting, Sevierville, Tenn., said, “Every time another article is written on pipe tobacco and flavored cigars, local jurisdictions tax the living daylights out of them.” It remains to be seen whether little-cigar makers will fend off these challenges or fall victim to the onslaught of tax and regulatory challenges.

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