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Changing times

| May 1, 2014

Faced with soft demand from traditional customers, U.S. tobacco farmers work to optimize their operations while eyeing opportunities presented by e-cigarettes.

By Chris Bickers

Tim Yarbrough, vice president of the Tobacco Growers Association of North Carolina, USA, recently expressed concern that an imbalance between tobacco demand and tobacco supply could lead to a drastically lower price for U.S. tobacco than in either of the two previous seasons. Speaking at the annual meeting of the export promotion organization Tobacco Associates (TA), Yarbrough, who grows flue-cured tobacco in Prospect Hill, North Carolina, said he is worried.

“I hope we are not looking at an oversupply situation,” he said. “Soft demand and too much tobacco would be a ‘perfect storm’ leading to a much lower price.”

Just as this story was completed, the U.S. Department of Agriculture announced its planting projection for 2014 for flue-cured of 232,300 acres, up 2 percent from 2013, and for burley, 100,100 acres, up 1 percent from 2013.

There certainly are a number of challenges facing U.S. growers, said George Scott, vice president for leaf for Universal Leaf North America.

“Domestic consumption in the U.S. declined 4.3 percent from 2011 to 2012, while European consumption is forecast to decline 7 to 8 percent,” said Scott, who spoke at the meeting held in Wilson, North Carolina.

“At the same time, e-cigarettes continue to increase market share,” he said. On the supply side, the Zimbabwe crop is expected to increase, while the exchange rate between Brazil and U.S. is projected to decrease by 15 percent.

Scott suggested three initiatives are necessary in order to keep U.S. production at current levels—finding a balance of grower sustainability while becoming competitive in the world market again, returning to a stable price market and continuing to provide a high-quality, compliant product.

Exports of U.S. leaf are up, but not because of purchases from traditional U.S. customers, said Blake Brown, a North Carolina Extension economist and another speaker at the TA meeting.

“The European Union [traditionally the leading destination for U.S. exports] is trending down,” he said. “But the demand in China is robust, and that is keeping exports strong.”

Short global supplies of flavor-style, good-quality flue-cured should work in favor of the U.S.

Confronted by these and other challenges, U.S. tobacco farmers are gearing up for either more production or more efficient production. Bob Pope, general manager of Long Tobacco Barn Co. in Tarboro, North Carolina, said that many farmers expressed interest in new curing barns at farm shows over the winter.

“We sold quite a few there, and we have continued to sell barns since then,” he said. “We will continue building 2014 barns through September.”

Used barns are selling at a fast clip too, Pope observed. “Barn haulers tell me they are very busy moving used barns that are bringing record high prices, which suggests tobacco farmers remain enthusiastic about their future prospects.”

Jumping into the liquid-nicotine market

In the meantime, American growers have begun exploring opportunities to provide the nicotine liquids used in e-cigarettes.

“So far, it is believed that the nicotine for these devices comes from China, India and maybe Eastern Europe,” said Rod Kuegel, a burley and dark tobacco grower from Owensboro, Kentucky.

He said meetings and negotiations were scheduled to see if this market could be developed, and he is sure that an experimental batch of liquid nicotine will be produced somewhere in the burley belt this year for further research.

“We [Americans] have the best controls on pesticide residues that exist in tobacco,” he said. “If electronic cigarettes are supposed to be healthier, how can they use nicotine from tobacco that doesn’t measure up to ours? This product should be produced in the U.S.”

The production practices for liquid nicotine have not been developed, but whatever the method, it is not likely to be too difficult for Americans to master.

And processing the raw product to liquid could be done on the farm. “All the equipment needed to process the tobacco could fit into a semi-trailer and be carried from farm to farm,” said Kuegel, who is president of the Council for Burley Tobacco.

E-liquid nicotine for e-cigarettes is being derived from tobacco, at least for now, said Brown. It is usually dissolved in a solution of propylene glycol, vegetable glycerin or polyethylene glycol.

Change may be dramatic, but it is difficult to forecast, said Brown, who noted one projection that e-cigarettes will overtake traditional cigarettes in volume sold by 2023.

But the technology and characteristics of the e-cigarette market may change dramatically, he said. Many companies are in the startup phase now, but consolidation will occur.

All of the major cigarette manufacturers in the U.S. and Europe have either purchased an e-cigarette company or are developing their own e-product.

“We will just have to see how the technology advances, but it’s one factor that could really impact the cigarette market in the future as more and more smokers switch to those kinds of products,” said Brown.

More plantings

Meanwhile, growers interviewed confirmed the slight increase in production anticipated by Department of Agriculture. Jeff Aiken of Telford, Tennessee, said acreage has been gradually increasing.

“There hasn’t been a mass re-emergence of growers,” he said. “It has primarily been a matter of growers who stayed in it planting more.”

The price was somewhere in the $2.05–$2.07 per pound range for the 2013 crop, which was enough to appeal to producers.

Burley growers went for years with no price increase at all, said Aiken, who is vice president of the Tennessee Farm Bureau Federation. “The price now is not where it should be, but it is an improvement over where it has been.”

In Kentucky, it looks like there might be a little expansion in burley acreage, said Kuegel. ”Supply is still a little short, so we hear, but domestic consumption is still declining, and that is a concern.”

In North Carolina, a small increase in flue-cured acreage seems likely, said Yarbrough. If that happens, and if farmers produce an average yield, we might see an average price about 10 cents less this season compared to 2013, he said.

“That would be livable if we can keep variable costs under control,” he added.

In Kentucky and Tennessee, additional contracts for dark tobacco growers were available this spring, although the volume was modest.

“Our yield in 2013 was low, and some companies reported falling 10 percent to 15 percent below their goal,” says Andy Bailey, Extension dark tobacco specialist. “Burley contracts appear to be similar to last year, and farmers are enthusiastic after the good price for the last crop.”

In addition, plantings of all tobacco types may be favored by the drop in the price of grain. “Farmers may divert some acres into tobacco instead,” he says.




Serious business

| May 1, 2014

The illicit cigarette trade isn’t just about lost profits and unpaid taxes; it provides seed money for other crimes, including terrorism and human trafficking.

By Timothy S. Donahue

Tobacco companies are sometimes criticized for overstating the seriousness of the impact the illicit cigarette trade has on society. Anti-smoking groups contend that stories of smuggled smokes funding crimes such as terrorism and human trafficking are exaggerated and the problem is more about lost profits than lost lives. A look at the facts, however, suggests the link between the illegal tobacco trade and serious crime is all too real.

Examples of such connections are disturbingly easy to come by. The notorious terrorist Maokhtar Belmokhtar, for instance, is frequently referred to as “Mr. Marlboro” for financing his jihadist activities through cigarette smuggling across the Sahel. Income from the illicit tobacco trade allowed him to finance spectacular operations such as the 2013 gas field hostage drama in In Amenas, Algeria, during which 40 people died.

Louise Shelley, director of the Terrorism, Transnational Crime and Corruption Center and a professor with the School of Public Policy at George Mason University, in Fairfax County, Virginia, USA, says cigarettes are just one part of Belmokhtar’s criminal panoply, which also includes kidnapping, extortion, arms dealing and drug smuggling.

Because of its role in funding terrorist organizations, the illicit cigarette trade can be blamed for the deaths of military personnel from numerous countries, says Doug daCosta, president of Elite Security Services International and a former agent with the U.S. Bureau of Alcohol, Tobacco, Firearms and Explosives (ATF). While there are a number of steps between cigarette smuggling and terror, daCosta insists the link is clear.

“There is no argument about the fact that money made from illicit trade that is funneled to these terrorists groups can either barter or buy guns, ammunition and explosives that are used by al-Qaida, Hezbollah, Hamas and numerous other terrorist groups,” he says.

Criminal networks in the 21st century are vast, operating across both geographic and functional borders, says Brendan Lemoult, anti-illicit trade vice president at Japan Tobacco International (JTI). “We know that criminals and terrorists traffic illegal tobacco just like they traffic humans, drugs and weapons. It’s the same gangs using the same smuggling routes,” he says. “This is not a victimless crime.”

The Irish Republican Army (IRA) was one of the first groups to use cigarettes to fund its activities, according to Interpol. Police estimate that the IRA, in its various incarnations, made $100 million in just five years (1999–2004) from trafficking illicit cigarettes. In September 2013, a rocket fired by al-Qaida at a massive container ship blew the lid off a multimillion-euro illegal cigarette operation run by a millionaire businessman with links to former IRA leader Thomas “Slab” Murphy.

But criminals need not always cross national borders to profit. On May 15, 2013, law enforcement officials in New York City took down a Palestinian cigarette smuggling ring that bought $55 million worth of cigarettes in Virginia and sold them at a hefty profit in New York City. Virginia’s cigarette tax is $0.30, compared with $4.35 in New York City.

Day after day, truckloads of illicit cigarettes continue to be purchased from southeastern U.S. states, which levy comparatively low tobacco taxes, and then shipped to and sold in the Northeast, where taxes are higher. “We refer to the Interstate 95 corridor as ‘the new tobacco road,’” says David Howard, senior director of communications for R.J. Reynolds. “It’s estimated that more than 60 percent of the cigarettes sold in New York are illicit, which is significant because New York collects more than a billion dollars a year in tobacco taxes sold through legitimate markets.” In a recent study conducted by the city of New York,  more than 40 percent of the 1,700-plus stores surveyed sold illicit cigarettes.

One of those arrested in the New York City operation, appropriately dubbed “Tobacco Road,” was Youssef Odeh, a vocal supporter of Omar Abdel-Rahman, the blind sheik now serving a life sentence for his role in a foiled 1993 plot to blow up New York City’s World Trade Center. The ring was run by brothers Basel and Samir Ramadan of Ocean City, Maryland, USA, who are believed to have ties to Hamas and Hezbollah.

Examples of the illicit cigarette trade contributing to terrorism and organized crime appear in the news almost daily. The U.S. Congressional Research Service’s Report on Terrorism and Transnational Crime mentions that “cigarette smuggling schemes as a means for financing terrorists have been discovered in a range of countries and regions, including the United States, Europe, Turkey, the Middle East and North Africa, and Iraq.”

Murphy is said to have amassed a £40 million ($66.7 million) fortune through smuggling cigarettes and other goods. During a 2006 raid on his home, police officers  confiscated 30,000 cigarettes and $1.1 million in sterling bank notes. In March 2013, Murphy was tipped off four hours before he was again targeted in a major cross-border police raid. As of this writing, Murphy, in an Al Capone-like fashion, is being prosecuted on nine charges of failing to furnish tax returns from 1996 to 2004.

Money from illicit cigarette sales is often funneled to terrorist networks through a bartering system that operates outside of, or parallel to, traditional banking channels, according to daCosta. A hawala is an informal value transfer system based on the principle “honor among thieves,” which includes numerous cash brokers. Although they are primarily located in the Middle East, North Africa, the Horn of Africa and the Indian subcontinent, the reach of the hawala is global.

“It’s how money was given to some of the pilots for training for September 11,” says daCosta. “How it works is a guy in, let’s say, the Middle East, tells his associate, ‘I need you to send money over to this guy in California.’ Then contact is made to their guy in San Diego, they send him a message, and he pays the debt. Maybe later the guy in San Diego needs to pay a debt in the Middle East, and that cancels the first debt or increases what the other side owes. Once a year they may get together to level everyone’s balance sheet. It’s worldwide and nearly untraceable.”

The first case of documented links between a terrorist organization and cigarette smuggling in the U.S. was uncovered nearly 20 years ago. In 1996, ATF agents and other law enforcement agencies discovered that a group of men were purchasing large pallets of cigarettes from local distributors and paying for everything in cash. Their business model involved moving those cigarettes across state lines, where they would be sold for a substantial profit. According to court documents, “the conspiracy involved a quantity of cigarettes valued at roughly $7.5 million.”

In 1999, the Federal Bureau of Investigation notified the ATF that a Hezbollah cell was raising funds and procuring equipment in Charlotte, North Carolina, USA. Mohamad Hammoud led the fundraising efforts for the cell, and he was also a prime suspect in the cigarette smuggling ring identified by the ATF in 1996. Hammoud transferred his ill-gotten gains generated by the cigarette trafficking scheme, as well as money raised from other sources, back to Lebanon through a hawala and into the coffers of Hezbollah, which the U.S. government considers a terrorist organization.

Winning an unwinnable war

The main problem in combating the scourge of smuggling is the high profits, which rival those of narcotics, and the relative cheapness of conducting a terrorist operation. A shipping container holding 10 million cigarettes could cost as little as $100,000 to produce in Asia, says daCosta, but could bring in as much as $3 million to $4 million in the U.S. Contrast that against the estimated $400,000 to $500,000 it cost al-Qaida for the September 11 attacks, according to the final report of the National Commission on Terrorist Attacks Upon the United States.

Dismayed by the link between the illicit cigarette trade and serious crime (and, yes, also by their lost sales), tobacco companies are playing an active role in stopping smuggling. It is not uncommon for companies to hire private investigators to help law enforcement catch the crooks. Imperial Tobacco Group has gained years of experience in compiling intelligence, analyzing data and briefing law enforcement agencies on the findings of Imperial’s security team.

“We have been central to the breakup of several sophisticated criminal gangs, including those who operate on an international scale, during the past several years,” says Steve Smith, Imperial’s head of group security and risk management. “The largest by volume was in Hamburg in May 2013. We passed intelligence to OLAF [the European anti-fraud office] on a suspect shipping container; OLAF in turn notified German customs, and 53 million cigarettes were subsequently seized.”

Philip Morris International (PMI) has been working with private investigators in Singapore to identify smugglers’ distribution networks. After months of surveillance, the investigators managed to identify the supply chain routes used by smugglers and shared the results with Singapore customs. “As a result, two seizures were carried out by the customs authorities, with the latest, in December 2013, involving illegal cigarettes worth over sgd1.6 million ($1.26 million),” says Iro Antoniadou, manager, external communications, PMI.

Penalties are another problem. “Since penalties and sentences for tobacco smuggling are frequently much lighter than those for smuggling drugs, criminals see it as a soft and easy option,” says a British American Tobacco representative. “They hedge their bets, and there is a lot less risk of being put out of business for extended periods when you sell illegal cigarettes.”

Howard and Smith believe that laws should be enacted to increase fines for illicit trade activity and impose penalties that treat such crimes as felonies where they are not already regarded as such. “Organized crime and terrorism has been involved in the illicit tobacco trade for many years, as it’s a very profitable practice for them, and, for those caught, the penalties are too often very light,” says Smith.

“Weak border controls in some regions also contribute to the problem. We believe that in order for anti-illicit trade measures to be practical and effective, responsibility for each of the key elements should be assigned clearly to the individual parties involved: a) tobacco companies, b) government authorities and international organizations, c) tobacco companies and/or government authorities and international organizations working together.”

Tobacco companies are often working together with law enforcement to combat the problem. One example of an industrywide effort is the Digital Coding & Tracking Association (DCTA), whose members include BAT, Imperial, JTI and PMI. DCTA members produce more than 75 percent of the world’s tobacco products (excluding China) and move billions of finished goods through international supply chains every year, undertaking millions of cross-border transactions in the process.

Codentify, the main product offered by the DCTA, offers quick and easy access through a mobile phone or computer terminal to all information concerning a case, carton and, recently, some packs of cigarettes. The coding on the packages verifies the legitimacy of shipments and meets future international regulatory methods, including the World Health Organization’s protocol to eliminate the illicit trade in tobacco.

The implementation of Codentify as JTI’s track-and-trace solution has been a valuable tool for its anti-illegal tobacco team, according to LeMoult. “Codentify has provided us with concrete information on illegal tobacco routes that we have passed on to law enforcement, at times stopping illegal supply chains in their tracks,” he says.

Agreeing with a recent report from the European Commission, LeMoult also noted that JTI’s implementation of Codentify, combined with its other anti-illegal tobacco and due diligence measures, explains why the company has been so successful in reducing the criminal diversion of genuine JTI products into the illegal market, even during a time when the commission warns that “overall, the illicit trade is increasing in the EU.”

Smith adds that tracking and breaking down the types of gangs that smuggle smokes is resource intensive, and Imperial is investing heavily in technology (e.g., Codentify). “Whilst not a silver bullet to illicit trade, technology is a key tool in securing the legal supply chain,” he says. “Consolidating intelligence builds a more complete picture of known criminal operations.”

Lemoult notes that if corporations work together alongside law enforcement to combat the illegal cigarette trade, together they can blaze a path forward. “Through concerted action by governments, the public and the industry, by taking a stand together, we can deliver considerable benefits for national economies, as well as local businesses and communities,” he says. And while cracking down on illicit trade will, by itself, not stop terrorism, it will at least make perpetrators’ lives more difficult by forcing them to find alternative sources of funding.



Bigger than Imperial

Due to its nature, illicit trade is notoriously difficult to measure. Philip Morris International (PMI) estimates that global non-tax-paid volume was around 570 billion units in 2012. “This represents between $40 billion–$45 billion in unpaid taxes and approximately $4 billion to $5 billion in lost margins for legitimate manufacturers,” says Iro Antoniadou, manager, external communications, PMI.

Steve Smith, head of group security and risk management with Imperial Tobacco, believes those numbers may be even higher, with revenue losses for the industry possibly reaching as high as double PMI’s estimates—about $10 billion annually. “This makes ‘Illicit Tobacco PLC’ bigger, in volume terms, than Imperial Tobacco,” he says.

British American Tobacco says organized crime holds 11.1 percent of the EU cigarette market and is selling 65.5 billion cigarettes a year, pulling in a profit of up to €5 billion ($6.87 billion).






The slippery slope

| May 1, 2014

Once dismissed as scaremongering, the tobacco industry’s warning that health advocates would soon target other sectors is starting to sound prescient.

By Simon Roper

“Sugar is the new tobacco,” proclaimed a January headline in the Daily Mail, a major U.K. tabloid. The refrain echoes around the world. Type the terms tobacco and sugar together into your Internet search engine, and you’ll receive a large number of results; my query returned 60 million hits. The volume of published research on sugar and obesity grows swiftly as well, rivaling that on alcohol and tobacco. A new campaign organization, Action on Sugar, has been set up in the U.K. and the U.S. to drive awareness and promote government intervention. Ninety percent of doctors surveyed in Europe believe governments should do more.

The growing vilification of sugar suggests that, having “tamed” tobacco, public health advocates are in search of a new target. Dr. Margaret Chan, director of the World Health Organization (WHO), admitted as much when she said that, in the wake of the tobacco control movement’s success, “obesity is now the most visible epidemic that needs to be stopped.”

Despite the shift in focus, it seems unlikely that the pressure on tobacco will be eased just yet. Many developed countries are targeting smoking rates of just 5 percent, even as prevalence has proved difficult to push below 15 percent. So regulators are advocating ever-more extreme restrictions, grasping for untested measures, such as smoking bans in cars, standardized packaging and other measures that will further denormalize smoking.

But as the public health lobby widens its net, the risk that the tobacco industry has been warning about for years—that other lifestyle products would be targeted next—is starting to be realized. The same weapons used to fight tobacco will be deployed in the battle to make us healthier citizens—or, at least, less costly citizens. It used to be said that the issues raised by regulation pertained only to tobacco companies and that the “slippery slope” was a narrow ride reserved for them. It may be about to get busier and wider.

From sweet to sour

Why sugar? Just like mechanization made cigarette production easier and cheaper, and the growth in international trade carried them around the world, sugar refining and the advent of sweet drinks led to widespread consumption of sugar, not only in markets such as the U.S. but also in the developing world. The results have been dramatic: Two-thirds of Americans are now overweight; more than one-third are clinically obese. Seventeen percent of children are obese. Obesity significantly raises the risk for diabetes, heart disease, strokes and some cancers. These diseases can be expensive to treat, and governments are increasingly concerned about the drain on their resources. According to Action on Sugar, “Obesity and diabetes already cost the U.K. over £5 billion [$8.37 billion] a year. Without regulation, these costs will exceed £50 billion by 2050.”

Sugar is not the only risk factor for obesity, but some argue it is by far the most important. One influential voice is Dr. Robert Lustig, of the University of California, an expert on childhood obesity. He has been campaigning against sugar for some time and has a growing Internet following. His lecture Sugar: The bitter truth has been viewed more than 4 million times on YouTube. Lustig believes, and seeks to demonstrate through biochemistry, that fructose (the main form of sugar used in drinks) is not just high in calories; it causes much higher levels of fat in the body than glucose or other carbohydrates and should be treated as a toxin. He equates fructose with alcohol and asks why the U.S. Food and Drug Administration does not regulate it like that substance.

Increasingly alarmed, the WHO recently halved its recommended daily intake of sugar. In 2000 it adopted a plan to target non-communicable diseases, principally diabetes, cancer, COPD and heart disease. A new strategy to drive the initiative forward, the NCD Global Acton Plan 2013–2020, was adopted last year. Chan recently warned that diabetes alone was becoming a major health burden to many governments, consuming up to 15 percent of some nations’ annual budgets.

In a recent report, Credit Suisse offered this insight: “The global obesity epidemic and related nutritional issues are arguably this century’s primary social health concern. The focus on well-being has shifted from disease to diet.” For many, like Lustig, sugar and sugary drinks call for the most urgent attention.

The obesity phenomenon is not restricted to the developed world. Since World War II, the biggest winner, U.S. industry, has been hugely successful in taking its products to all corners of the world—and none more so than Coca-Cola.

Critics call it the “Coke-colonization” of the world, complaining initially about the erosion of local cultures but more recently about Coke’s contribution to significant increases in obesity rates in developing countries. The Economist’s December 2012 obesity report said that a combination of unreliable tap water and savvy marketing have helped make Mexico the world’s leading guzzler of Coca-Cola. For many campaigners, this is enough to explain Mexico’s rapid rise in obesity rates, which now match those north of the Rio Grande.

Lessons learned

As health campaigners and governments address the global obesity “pandemic,” food and drink companies can expect a storm of regulation in the coming years. An editorial in The Lancet, a leading medical journal, recently suggested that anti-alcohol and fast-food campaigners could draw valuable lessons from the fight against tobacco. The WHO’s commitment to combating NCDs and its new focus on obesity can lead in only one direction.

The story of tobacco regulation is familiar. Government campaigns discouraging consumption, starting famously with James I of England’s “Counterblast to Tobacco” of 1604, and taking firm root in the 1960s in the U.S. and the U.K., were followed by health warnings on packs and advertisements. Taxation, always attractive to governments, became a win-win tool as it was exploited to help smokers help themselves, while handsomely lining state coffers.

Governments then crafted regulations with the goal of modifying the product by reducing tar-per-cigarette levels, although they no longer appear to favor this approach and are now turning to banning ingredients, such as menthol. Further encouragement to quit was given to the smoker when the nonsmoker was identified as a victim in need of protection, and public smoking bans became widespread. The consumer’s freedom to learn about new products became increasingly curtailed by advertising bans. Finally, when only packaging remained as a means for cigarette manufacturers to communicate with consumers, some countries, such as Australia, decided that this too must stop.

Different target, same methods

The lessons learned from tobacco are already starting to be applied to sugar, as demonstrated by Michael Bloomberg’s (unsuccessful) attempt to limit the size of sugary drinks when he was mayor of New York City. Many call for more information about sugar to be printed on packs and cans. Thirty-three U.S. states have already introduced soda taxes.

But a “fat tax,” like that introduced—and then abolished—by Denmark, can be difficult to get right. Might regulators see packaging and promotion as an easier target? How long before the iconic Coke bottle—a trademark in its own right—is threatened with standardization? No doubt survey evidence from young consumers (unable to make informed choices) will be produced to show that they find the bottle shape and the red curlicue script attractive. If such “evidence” was enough for Australia—and now, apparently, the U.K.—to justify standardized cigarette packs, might  it  be used one day to introduce similar measures to crack down on the consumption of sugar?

Just as health campaigners adopt the lessons of tobacco control in determining the means of reducing consumption, so they are likely to adopt the same methods. For example, cooperate with industry at the outset, but marginalize and demonize it down the line. In the sugar-control arena, this is already contentious. Some talk of the bad behavior of industry, arguing that business is so conflicted it cannot be trusted. Litigation, which proved so popular in the U.S. as a way of driving tobacco regulation, is also advocated against fast food and soda drink producers.

However, others argue that self-regulation should be given a chance. For the time being, the WHO appears to favor cooperation, in contrast to its approach toward tobacco, where engagement and dialogue are proscribed. How long this willingness to treat the food and drink industries differently will last must strike those who follow the WHO’s Chan. In a recent speech at the Global Conference on Health Promotion, she said, “It is not just Big Tobacco anymore. Public health must also contend with Big Food, Big Soda and Big Alcohol. All of these industries fear regulation, and protect themselves by the same tactics.” But while Chan brackets these industries together, they appear to defend their interests largely on their own.

Meanwhile, the tobacco industry bears a great responsibility, on behalf of all lifestyle product manufacturers, to defend against unreasonable regulation. Should it fail, its defeats will surely be visited upon the other industries, like sugar, that are seen as the next targets.

For example, if the World Trade Organization’s Dispute Panel upholds Australia’s plain packaging legislation, it will make it difficult for other industries to employ international trade laws to protect their own intellectual property—the brands and trademarks grown and matured over many years and at great expense. Perhaps it is encouraging to note that a number of the countries contesting the Australian law, including Cuba, the Dominican Republic and Honduras, produce not just tobacco but also sugar. Is it possible that without a successful outcome in Geneva, the Coke bottle may indeed one day become a collector’s item?

Simon Roper is an experienced lawyer who joined the industry in the mid-1990s when tobacco litigation flared around the world. Recently, he has worked on defending the sector’s interests against unreasonable regulation, such as plain packaging. He is now consulting and lives in Geneva, Switzerland. 

The way forward

| February 26, 2014

The Brazilian leaf tobacco industry cannot afford complacency in the wake of last year’s record earnings.

By Taco Tuinstra

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There were lots of smiling faces in southern Brazil last year. At 706 million kg, the 2012–2013 tobacco crop volume may not have broken records, but its export earnings—the variable that counts—were unprecedented. According to Sinditabaco, an industry organization, leaf exports generated a whopping $3.27 billion last year. Can Brazil continue flying high? While generally confident about the future, industry leaders say several issues, including labor cost, must be addressed if Brazil is to sustain its strong position in the global leaf market.

Brazil’s reputation as a reliable supplier of flavor tobaccos is based on several factors, including the size of its growing area (large), its farmer profile (small) and the integrated tobacco production system (ITPS), which enables the industry to coordinate production with no fewer than 160,000 farmers in the states of Rio Grande do Sul, Santa Catarina and Paraná. Like elsewhere, tobacco growing in Brazil is subject to the whims of Mother Nature. But the spread of production over such a large area, with varying climate conditions and growing calendars, means that risk, too, is spread widely.

Planting takes place over six months, from May to November—a much longer timeframe than in the United States. And whereas some 75 percent of U.S. tobacco production is concentrated in the so-called Old Belt, the Brazilian equivalent—the area around Santa Cruz do Sul and Venâncio Aires—accounts for only a quarter of that country’s cigarette tobacco production. If one region suffers from adverse weather, conditions are likely to be better in other growing areas, and the overall impact will be mitigated.

That has certainly been the case this growing season. “At the end of September and the start of October, there were rains in the Old Belt, which delayed the tobacco’s development,” says Guilherme Steffen, regional administrative director, South America, at Alliance One International (AOI). “When the heat hit between Christmas and New Year’s, the plants were unprepared.” Other areas experienced more favorable growing conditions. “The Old Belt suffered a yield reduction of about 15 percent, but there was a slight increase in yields elsewhere,” says Aldemir Paulo Faqui, leaf production director of Universal Leaf Tabacos. “Taken together, the yield is down slightly over last year, but this is compensated for by the increase in area planted.”

The Brazilian Tobacco Growers Association Afubra predicts about 700 million kg in southern Brazil, including flue-cured Virginia (FCV), burley and Galpão Comum, a native variety.

Faqui expects quality to be decent, especially for burley. “The weather in the north of Rio Grande do Sul and the west of Santa Catarina—the primary burley-growing areas—was favorable for curing,” he says. “Humidity was high and there was no low temperature. We’re looking at nice, naturally brown colors for burley.” FCV quality is projected to be average this season.

Whether prices will be as firm as last year, however, remains to be seen. Farmers tend to respond to good crops by growing more tobacco—which depresses prices the next season—and this year was no exception. The area planted for the 2013–2014 crop was 3–4 percent larger than that for 2012–2013 (332,000 ha). Also, some traders believe the industry overpaid last year. This season, it will likely practice more restraint. On the bright side, the exchange rate is more favorable than it was in 2012–2013. “The less expensive real will make Brazilian tobacco more affordable for buyers,” says Gary Russell, sales director of Marasca.

Farmer profile

The ITPS has been a major contributor to Brazil’s success in the tobacco industry. Unlike its U.S. counterpart, the Brazilian leaf tobacco industry is dominated by small-scale production. The typical tobacco farmer in southern Brazil has 16.1 ha of land of which only 2.5 ha is reserved for tobacco, according to Afubra. Greater shares of his property are covered by crops such as corn (22 percent), soy (7.6 percent) and native forest (17 percent). But while accounting for a relatively small area of the farm, tobacco generates a majority (56 percent) of the average grower’s income.

Tobacco remains the No. 1 cash crop in southern Brazil, and contrary to the image projected by some anti-tobacco activists, Brazilian tobacco farmers are not impoverished or perpetually indebted. “Over the years, tobacco income has allowed farmers to buy consumption goods of a standard similar to that common in urban areas,” says Flavio Goulart, Japan Tobacco International’s (JTI) corporate affairs and communications director for South America.

But small growers generally don’t have access to funding from conventional financial institutions; they cannot fund their own operations like many U.S. farmers do—and that’s where the ITPS comes in. In the ITPS, tobacco buyers and producers work together to produce a consistent crop. At the start of the growing season, merchants provide their contracted farmers with finance and agricultural inputs, the cost of which are subtracted from the selling price after the crop has been grown. The dealer commits to buying the entire harvest, offering the grower a degree of security that he doesn’t get from other crops. Leaf technicians help the farmer follow proper agricultural practices, ensuring the buyer gets the tobacco styles he requires.

Traditionally, small-scale farmers have relied on manual labor, provided mostly by family members and neighbors. “These farmers can respond instantly to developments in the fields,” says Robert Jones, president of Tabacum. “They can reap and top at exactly the right time, which in turn promotes quality.” But small-scale production is ill-suited for mechanization—something that could become a problem as labor gets scarcer.

Booming Brazil

Migration to the cities has been an issue for decades in rural areas worldwide. In Brazil, the challenge has been exacerbated by the country’s recent economic boom and upcoming events such as the 2014 football World Cup and the 2016 Olympics, which have created strong demand for workers in construction and services. In December, Brazil’s jobless rate fell to a record low of 4.3 percent, according to the Brazilian Institute of Geography and Statistics—a figure that many economists equate with full employment. Adding to the problem, whisper some, are generous social programs, promoted by Brazil’s ruling Workers’ Party, which have reduced the incentive for people to accept relatively low-paying positions.

Meanwhile, a government push to formalize agricultural labor has made farmers even more reluctant to hire workers. Growers are now expected to prepare proper contracts, collect taxes, etc. “For the average tobacco farmer, the paperwork required can be intimidating,” says Mario Bender, production superintendent at Premium Tabacos do Brasil. Instead of hiring help, farmers may choose to reduce their tobacco plantings to an area that they can manage with their family. The situation has also created a bit of a competitive disadvantage for Brazil versus that other flavor market dominated by small-scale producers. “You can be sure President [Robert] Mugabe isn’t enforcing all the labor protections in Zimbabwe,” says Jones. Farmers’ representatives and Brazilian legislators are discussing amendments to the legislation that would allow tobacco growers to contract temporarily labor under less onerous regulations.

In a way, the pressures are also a result of the tobacco industry’s success in eradicating child labor. The tobacco industry in southern Brazil was started in the first half of the 20th century, largely by German immigrants who brought with them a strong work ethic. As was common in those times, parents expected their children to help out on their farms. In today’s world, of course, child labor is frowned upon, and the tobacco sector has worked hard to discourage the custom. For example, in order to obtain a growing contract, a tobacco farmer must now provide proof of his children’s school enrollment. It’s not just a token formality: At the end of the school year, leaf buyers will demand to see the children’s attendance records. In addition, Sinditabaco and individual tobacco firms run campaigns to discourage child labor and promote education.

Brazil’s 2010 census found that the incidence of child labor in the tobacco fields had declined by 50 percent over the previous 10 years, compared with reductions of only 20 percent in other sectors. Individual companies report even more impressive accomplishments. Carlos Palma, corporate affairs manager at market leader Souza Cruz, says all of the farmers his company contracts with send their children to school now.

But the success of such initiatives also means that tobacco growing has become a less obvious choice for farmers’ children when they grow up. Exposed to a greater variety of opportunities than their parents, rural youngsters are increasingly opting for careers elsewhere, reducing the influx of new blood into the profession. Since 2009, the number of farmers has declined by 20,000, and the remaining ones are having difficulties finding labor.

The Brazilian tobacco industry’s response to the trend has been twofold. On the one hand, it is educating would-be farmers on the potential of the business, demonstrating that, for adults, cultivating tobacco is a valid—and, often, lucrative—choice. On the other, it is trying to reduce farmers’ dependence on labor through mechanization, alternative curing technologies and good agricultural practices. Such measures have the added benefit of increasing quality and, thus, income.

Because harvesting is the most labor-intensive part of the tobacco-production cycle, most efforts are focused there. Leaf dealers have been experimenting with harvesting machines, but they’ve found it challenging. Manufactured in high-cost Europe and attracting steep Brazilian import duties, the equipment is too expensive for the average tobacco grower. Efforts to convince local manufacturers to produce harvesting machines have been unsuccessful because of the still-limited market. Some suggest that, in order for mechanical harvesting to work, farmers may have to purchase them collectively. Another option would be to create a system in which specialist harvesting service providers rent out their equipment and operators.

Scale is not the only challenge. Bender points out that mechanical harvesting would require changes to agricultural practices. For example, because machines are less discriminating than humans, farmers would need to start growing tobacco varieties with leaves at greater distances from one another. “Manual laborers can pick and choose exactly the right leaves,” he says. “A machine, by contrast, simply harvests everything at a certain height.”

With labor accounting for 54 percent of tobacco production cost, mechanization offers the greatest potential for savings. But there are other opportunities to reduce expenses as well. Over the years, tobacco companies have introduced numerous technologies, such as the float system and the loose-leaf barn, to help growers become more efficient—and thus more profitable. “We can’t control world leaf prices, but we can control our expenses,” says Valmor Thesing, administrative director of Universal Leaf Tabacos. The larger companies operate dedicated research farms where they experiment with new seed varieties and cultivation techniques. Universal says it has had considerable success with no-till tobacco cultivation. As a result of such initiatives, farm yields have improved significantly over the years.

Sometimes, innovation is simply a matter of questioning existing practices. For example, Philip Morris Brazil (PMB), which entered the leaf market in 2010, no longer requires farmers to bundle tobacco, which is a time-consuming process. In the past, when there was plenty of labor, the cost of bundling was immaterial, but times have changed. “The agronomy team asked our processing guys, ‘Do you really need leaf in bundles?’” says Eduardo Muller, manager regional agricultural programs for Philip Morris International (PMI). With some adjustments, it turned out they didn’t. Non-bundling has quickly gained acceptance among Philip Morris-contracted burley growers, and the firm plans to extend the experiment to FCV farmers this year.

Vertical integration

Another significant development in Brazil has been the “verticalization” of cigarette manufacturers’ operations. Souza Cruz has sourced its leaf tobacco requirements directly for many years, but recently other manufacturers have gotten involved as well. Following several years of market volatility, JTI purchased the leaf operations of KBH&C and Kannenberg in 2009. The next year, Philip Morris International (PMI) acquired 17,000 farmer contracts from Universal and AOI, and created PMB’s tobacco operation.

“Our goals are to secure supply, be closer to farmers and take responsibility for the areas that we operate in,” says Goulart. “Vertical integration offers us an opportunity to apply the JTI way of doing things; we want to contribute to the standards.”

For the time being, both companies will continue working with leaf merchants. Without its own stemmery, PMB is still processing tobaccos at third parties. PMI also aims to buy part of its leaf requirements from other leaf merchants. JTI, too, wants a mix of third-party supply and direct sourcing. “We strive for balance,” says Goulart.

Not everybody is convinced of the wisdom of verticalization, however. Jones, an industry veteran who retired as CEO of Universal Leaf Tabacos in 2009, says many cigarette manufacturers were vertically integrated in Brazil during the 1980s, but then decided to divest their leaf operations to specialists. “Leaf sourcing is a high-cost, low-profit business,” he says. “It would not surprise me if, within 10 years, the manufacturers spin off those businesses again.”

For Universal and AOI, vertical integration has meant a shift in the emphasis of their activities toward processing, which generally carries lower margins than full-sales service. AOI has offset some of the lost PMI business by establishing a joint venture with the China National Tobacco Corp., called China Brasil Tabacos (CBT). Operating since January 2012, the JV has 6,000 integrated farmers spread over 41 municipalities of Rio Grande do Sul. CTB’s main customer is the Chinese monopoly, but the company will be selling to other customers grades that the Chinese are uninterested in.

While some have expressed concern about the large manufacturers “hoarding” tobacco, others see opportunity. Newcomer Tabacos Novo Horizonte (TNH), for example, has done well catering specifically to the needs of niche customers: companies specializing in roll-your-own or pipe tobaccos, for example. Created only three years ago, the firm has seen its volumes grow from 13 million kg in its first year of operations to an expected 23 million kg this season.

The market entry of firms such as TNH proves that, despite the adversity facing the tobacco industry, Brazilian tobacco leaf continues to generate considerable interest among businesspeople. Sinditabaco says it has added four companies to its membership since 2006—a remarkable gain in an otherwise mature industry. The challenges are real enough, however, and the sector will have to stay on top of its game to prevent last year’s smiles from turning into grimaces.


Using technology to optimize production

The size of Brazil’s tobacco industry never ceases to amaze. Leaf exporters coordinate their business with a whopping 160,000 farmers, growing a little more than 2 ha each and spread over an area larger than France. Just contemplating the logistics of supplying inputs, providing agronomic assistance and keeping track of crop development is enough to make the mind boggle. The task is further complicated by the fact that tobacco companies take on all sorts of social responsibilities, such as ensuring that farmers send their children to school.

Fortunately, technology is lightening the workload. Universal Leaf Tabacos has developed an application, Mobileaf, that allows the company to keep up with all relevant information in real time. Using tablet computers, the firm’s leaf technicians collect data from the fields about the area planted, soil types, reforestation and fertilizer requirements, among other variables. The gathered information is synchronized over wireless networks with a central database, allowing Universal to better plan its operations, respond faster to field developments and, ultimately, produce tobacco more cost-effectively.

Valmor Thesing, Universal Leaf Tabacos’ administrative director, says Mobileaf has greatly improved the quality of information. In the past, administrating relationships with the company’s 30,000 contract growers in Brazil involved lots of paper—with the associated risk of copying mistakes. Today, the risk of such errors has been virtually eliminated. Data flows faster, too. Whereas in the old days it could take up to four weeks for information to make its way back to the head office, updates are now almost instant. Brazil’s 3G mobile phone network is well developed, and even if a technician has trouble connecting from the field, he can still do so from home.

Conceived only three years ago, Mobileaf has caught on quickly. Universal is now preparing to implement the system in Africa, Italy and the United States. —T.T.




“U.S. retreats from tobacco regulations in trade deal”

| August 16, 2013

FairWarning reports that the Obama administration appears to have retreated from efforts to include, in the Trans-Pacific Partnership agreement, language enabling countries to uniquely attack the tobacco industry and adopt tough anti-tobacco regulations.

The online publication, which provides public-interest journalism on issues of health, safety and corporate conduct, says the Office of the U.S. Trade Representative put the protective language on hold last year following protests from the U.S. Chamber of Commerce and other business groups. Eight negotiating rounds passed since then without U.S. officials enabling the targeting of the industry through such language.

Cigarette makers in recent years have invoked trade agreements to challenge anti-smoking rules like large graphic warning and plain packaging requirements. The National Association of Manufacturers, the American Farm Bureau Federation and a group of former U.S. trade representatives, including three employed by law firms with tobacco industry clients, also spoke up against language protecting countries’ authority to adopt anti-smoking regulations.

Health advocates have said trade rules should not “inhibit any nation from exercising its sovereign authority to protect the health of its citizens,” and tobacco products “should not be treated as other consumer goods” in international trade.


“E-cig no more risky than smokeless”

| August 9, 2013

A study funded by The Consumer Advocates for Smokefree Alternatives suggests that e-cigarettes are no more risky than other smoke-free tobacco and nicotine products.

After reviewing more than 9,000 “observations” about the chemistry of e-cigarette vapor and e-liquids, Igor Burstyn of the Drexel University School of Public Health found “no evidence that vaping produces inhalable exposures to contaminants of the aerosol that would warrant health concerns by the standards that are used to ensure safety of workplaces.” Exposure for bystanders, he said, is likely to be orders of magnitude less, and thus poses no apparent concern.

The study cautioned that e-cigarette users are inhaling substantial quantities of propylene glycol and glycerin, the main chemicals in e-cigarette liquid. The chemicals are not considered dangerous, and the levels are below occupational exposure limits, but Burstyn suggested ongoing monitoring to confirm that there is no risk.

CASAA Scientific Director Carl Phillips said the study “assures us that e-cigarettes are as low risk as other smoke-free tobacco and nicotine products, like smokeless tobacco and NRT.”

The study is here.