Yesterday (7/16) we continued our “Speaker Series” on e-cigarettes and e-vapor with John J. Wiesehan, Jr., CEO of the Charlotte based company, Ballantyne Brands, the maker of Mistic Electronic Cigarettes. Mistic is the No. 2 brand in the xAOC category, in 60,000 brick and mortar stores including Walmart, Dollar General, 7-Eleven, and Walgreens (to name a few).
We had a chance to put on a similar call with John in June of last year as part of a series of talks we’ve held with industry experts (previous speakers included CEOs of NJOY, LOGIC, Victory, and VMR Products) to help update and define shifts and trends within the e-cigarette/e-vapor industry.
John substantiated many trends we are seeing across the industry, perhaps the largest one being vaporizers taking share from cig-alike (or mini) e-cigarettes, which mostly make up the current non-combustible portfolio of Big Tobacco. Alongside the consolidation we are seeing in the industry (with Lorillard’s e-cig business blu expected to be sold to Imperial as a part of Reynolds’ acquisition of Lorillard), and persistent questions about the regulatory environment around the category, below are our key takeaways from John’s prepared remarks and a robust Q&A session:
How will the FDA come down on flavors, online sales, and advertising?John expects the FDA to take a science based approaching in evaluating e-cigarettes. To this end the FDA recently announced it would spend $270M on future research. On advertising, he says U.S. legislators (see U.S. Senator Committee on E-Cigs Lobs Harsh Criticism Yet Science Inconclusive) are very concerned about advertising targeting children and the Co. has a policy to target only current combustible smokers in its marketing. Hedgeye’s view agrees with a science based approach, which we expect to be counted in years, and we suspect that over time flavors, online sales and advertising will be banned/restricted in similar fashion to combustible cigarettes.
Is there a broader industry trend to bring liquid, filling and manufacturing of e-cigs/e-vapor products to the U.S. (from China)? John believes that the consumer will increasingly demand that liquids are USA sourced and filled. He also believes U.S. based manufacturers will be better able to facilitate FDA regulation. In 2012/13 Ballantyne Brands was ahead of most of its peers in deciding to source and fill its e-liquid products in the U.S. (the Co. still sources hardware, including batteries, from China). We expect Big Tobacco and independent manufacturers to increasingly move to U.S. shores. For competitive (pricing) reasons this is yet to make economic sense to most major players, however increasingly it seems prudent from a regulatory perspective.
How do we contextualize the weakness in E-cig sales trends? How long will this persist? John says there are clear signs that the consumers is shifting to a vapor product. Indicators include the proliferation of vapor products in easily accessible retail channels (including the company’s Haus personal vaporizer) and the rise in vapor shops across the U.S. (estimated at 6,000-10,000). He estimates that the vapor category is worth between 30% to 50% of the entire e-cig/e-vapor industry. He confirmed many of the opinions we’ve heard in our “Speaker Series” that the customer is looking for an experience closer to combustible cigarettes and he rank ordered current products (from the best consumer product experience to worst) as: 1) e-vapor (tanks, mods, etc.); 2) rechargable cig-alike; and 3) disposable cig-alike. He thinks disposables could eventually go away. We continue to see that the shift toward e-vapor (which is largely not counted by measures channels) as a major contributing factor to the decline in e-cigarette sales data across measured channels. Added to the decline is also a heavily promotional environment as both MO and RAI begin national campaigns to promote their e-cig brands in MarkTen and VUSE, respectively.
How do the product offerings of MarkTen and Vuse differ from blu’s offering and how might this impact overall market share figures? John expects that once all of Big Tobacco is marketing products nationwide the dollar share should go back up, despite an initial period of discounting and promotion to get consumers to try the products. In terms of technology he says VUSE is a product strictly made in the USA (out of Kansas) and doesn’t expect the experience to be much different from blu. Regarding MarkTen, which is made in China, he does not see innovation that will create much surprise (if any) for the industry. We have no data to size up VUSE or MarkTen, however we suspect that Big Tobacco’s offering may underwhelm the consumer, accelerating sales of alternative e-vapor products. Although there’s initial rumblings of Big Tobacco’s awareness of this shifting landscape and in some cases plans/development for superior non-combustible offerings, we expect in the near-term no great catalyst to arrest falling (measured) e-cig trends.
Is there future M&A in sight for Big Tobacco or will they fund their non-combustible brands internally? (Ex. Lorillard purchased blu and SKYCIG; Altria bought Green Smoke; PM acquired Nicocigs). John believes there will be much more M&A over the next year. He thinks Big Tobacco will need to pay attention to independents like Mistic Electronic Cigarettes (and NJOY and LOGIC), that and nimble and can create a product category quickly, because he believes Big Tobacco is missing half of the U.S. market. We expect the e-cigarette/e-vapor market to remain highly fragmented (especially given the FDA’s mild proposed regulatory stance that allows online sales and flavors). We see a handful of private players (like Ballantyne Brands, NJOY, LOGIC, and Victory) that stand to compete with Big Tobacco in retail (despite ever limited shelf space), and therefore are posed as attractive buyouts for Big Tobacco given their potential as established brands with complementary product offerings.