Industry Profiles: Tobacco

views updated

Industry Profiles: Tobacco


The $80 billion U.S. tobacco industry is among the most powerful and controversial in the country's history. In the early 2000s, three companies generated all but 15 percent of domestic sales. Among these firms were Philip Morris Companies Inc. and R.J. Reynolds Tobacco Holdings Inc. The former company also operates Miller Brewing Co. and Kraft Foods. The tobacco industry remains a formidable and profitable economic force. However, the health risks associated with tobacco consumption have made it a beleaguered one in many ways. Beginning in the mid-1990s and continuing into the early 2000s, the industry faced a barrage of legal attacks in courts and legislatures as private citizens and government agencies challenged industry practices and sought financial compensation. Such compensation was intended both to pay for tangible damages attributed to tobacco use (mainly healthcare costs) and to penalize the industry for what some regarded as unethical or illegal behavior. Alleged abuses by tobacco companies include marketing tobacco to minors and manipulating cigarette composition to encourage addiction.

Cigarettes account for almost 95 percent of U.S. tobacco sales and an estimated 90 percent of world sales. Chewing tobacco is the second most popular end use, but accounts for just 5 percent of annual U.S. sales. And cigars, although they enjoyed renewed popularity in the 1990s, lure only about 1 percent of industry sales. Processed tobacco (an intermediate form of tobacco that is generally unavailable on the open market) rounds out the remaining 9 percent of the nation's tobacco production.

History of the Industry

The origins of tobacco in the United States date back to before the formation of the nation itself, but the use of tobacco to produce cigarettes in any widespread fashion didn't occur until the dawn of the twentieth century. Other uses for tobacco precluded the popularity of cigarettes, as Americans in the early nineteenth century enjoyed plug and twist tobacco, then smoking tobacco, and finally cigars, all of which overshadowed cigarette production in terms of volume for most of the century. Even in the mid-nineteenth century, the use of tobacco had its detractors, and cigarette smokers, many of whom were women, suffered from a somewhat ignoble image.

Cigarette production reached 500 million in 1880 and eclipsed the 1-billion mark five years later. By the 1880s there were five principal manufacturers of cigarettes: Washington Duke Sons & Co., Allen & Ginter, Kinney Tobacco Co., William S. Kimball & Co., and Goodwin & Co. Together these companies produced 2.18 billion cigarettes annually by the end of the decade, 91.7 percent of the national output of 2.41 billion. These companies, referred to as the "Tobacco Trust," essentially controlled the cigarette market, a trait that would characterize the industry throughout much of its existence.

In 1890 the five leaders merged to form the American Tobacco Co. Over the next 20 years, American Tobacco acquired an interest in roughly 250 companies. This cigarette giant broadened to become a tobacco giant, securing commanding leads in every product branch of the tobacco industry with the exception of cigars.

If the five leading manufacturers in the 1880s justly earned the moniker "Tobacco Trust" when operating as separate companies, then their union certainly deserved the same label. The U.S. Supreme Court came to this realization in May of 1911, when it found the American Tobacco Co. in violation of the Sherman Antitrust Act. The court forced the powerful tobacco company to be divided into 16 independent corporations.

The break-up of American Tobacco didn't affect the cigarette industry as greatly as the cigar industry, primarily because cigarettes still did not represent a major branch of the tobacco industry. The cigarette industry was burgeoning, however, and stood on the brink of catapulting past all other branches of the tobacco industry. The first step toward this end came six years after the restructuring of the industry, when the United States entered World War I and cigarettes were issued to soldiers in the U.S. Army and Navy.

Once the habit of smoking cigarettes had extended to women, thereby doubling the potential customer base of the industry, sales began to mushroom and the cigarette branch of the industry at last overtook all other branches. In this period many of the widely popular brands—Chesterfield, Lucky Strike, Old Gold, Camel, Raleigh, and Marlboro—emerged. Between 1910 and 1930, the production of cigarettes skyrocketed from 8.6 to 125.2 billion. Despite the break-up of American Tobacco, only four manufacturers, commonly referred to as the "Big Four," held any appreciable share of the market. Indeed, these manufacturers—the restructured American Tobacco Co., R.J. Reynolds Tobacco Co., P. Lorillard Co., and Liggett & Meyers Tobacco Co.—held more than 95 percent of the market.

The next two decades of business brought continued success to the industry's four largest manufacturers and witnessed the rise of an additional member to the industry's elite, Philip Morris & Company Ltd., Inc. Philip Morris introduced its soon-to-be-mainstay Marlboro brand in 1925, which reached an annual production total of approximately 500 million cigarettes. But the industry's leading brands during these years, Camel and Lucky Strike, each sold 25 billion cigarettes a year, by far outpacing Philip Morris's production. Nonetheless, Philip Morris was able to climb the industry's ranking list through strong relationships with cigarette jobbers in its distribution network and through savvy management. By the end of the 1940s, after Philip Morris had already unseated Lorillard to occupy the industry's fourth place position, the top five companies generated combined sales of $357.3 million.

In 1964 the U.S. Surgeon General issued a landmark report linking smoking with lung cancer and heart disease. A year later, the U.S. Congress promulgated the Cigarette Advertising and Labeling Act, which stipulated that health warnings be placed on each cigarette package. In 1971 cigarette advertisements on radio and television were banned. Although these announcements and restrictions didn't cause the industry to collapse, the rate of smoking in the United States began to spiral downward.

During the 1980s, discount cigarettes began to enter the market with increasing frequency. This enabled smaller cigarette manufacturers to thrive for a short time, until the industry's preeminent leaders dropped their prices and set about capturing the low-end market. Cigarette taxation doubled in 1983 and continued to rise, particularly during the late 1980s, increasing the popularity of lower-priced cigarettes. Consequently, cigarette manufacturers diversified their operations with unprecedented fervor, while casting an eye to international business opportunities.

Significant Events Affecting the Industry

A trailblazing California smoking ban, the strictest in the country, went into effect in 1998. It originated in 1995 when smoking in most public places, including restaurants and public buildings, was prohibited as a protection for nonsmokers against second-hand exposure. The legislation was later expanded to include bars and casinos beginning in 1998. While no other state in the late 1990s had yet followed California's example, the legislation was likely to dampen cigarette and cigar sales in one of the country's largest markets.

By far the most important development for the tobacco industry has been its ongoing legal struggles on various fronts. Because tobacco-related illnesses are estimated to cause 400,000 deaths in the United States each year, tobacco foes have attempted to both reduce smoking and recoup medical costs by attacking tobacco companies. These initiatives first gained momentum in 1992 when the U.S. Supreme Court held that tobacco firms could be liable for harm caused by their products. This decision reversed lower court rulings to the contrary. As a result, a flurry of liability litigation was brought against tobacco companies by individuals, organized groups such as flight attendants, insurance companies, and states.

Individual tobacco companies settled some of the class-action and state lawsuits, but the majority of the state-sponsored litigation came to be bundled in a set of negotiations between the tobacco firms and a group of state attorneys general. In 1997 these talks produced a $369-billion settlement agreement between the two sides. The agreement called for federal legislation that would require tobacco companies to pay the states that sum over a period of years and, in return, exempt tobacco companies from certain types of further litigation. The deal also specified marketing restrictions and obligations to inform the public of smoking's risks and to curb underage smoking. Industry critics believed the agreement didn't penalize tobacco companies hard enough. Meanwhile, industry proponents countered that such harsh penalties would bankrupt the industry, cause job losses, and hurt the economy. A sharply divided Congress appeared more sympathetic to the industry, and an important 1998 attempt to legislate terms similar to the agreement failed. The terms of both the original agreement and the defeated legislation suggested that while potentially weakened by anti-smoking movements, the industry would emerge from its political and social battles largely unscathed.

Key Competitors

The U.S. tobacco industry is controlled by a handful of major producers. The two largest, Philip Morris and R.J. Reynolds, have commanded nearly three-quarters of the U.S. cigarette market throughout the 1990s. Meanwhile, U.S. Tobacco Co. held the leading share of the chewing tobacco market.

Philip Morris Maker of the well-known Marlboro and Virginia Slims brands, among many others, Philip Morris was founded in the United States as a holding of a British company. It became an autonomous U.S. company in 1919. The company grew from being a relatively insignificant player in an industry dominated by a few big companies to become the world's largest tobacco company by the 1980s, propelled in part by the infamous Marlboro Man advertising campaign it began in 1955. Since the 1970s, international expansion also figured prominently in Philip Morris's rise to the top. In the process, the company also acquired a massive non-tobacco empire consisting of such U.S. food and beverage mainstays as Kraft, General Foods, and the Miller Brewing Company. By the late 1990s, Philip Morris brands accounted for half of the U.S. cigarette market and 14 percent of the world market. By market segment, in 1997 Philip Morris held a 58-percent share of the U.S. premium cigarette market and a 26-percent share of the discount market. Shipping more than a trillion cigarettes worldwide each year, Philip Morris earned about $40 billion from its U.S. and international tobacco sales in 1997. That year, the parent company brought in sales of more than $72 billion from all product lines and posted a vigorous 16-percent profit margin (within the tobacco segment its margin was closer to 20 percent). The company's 1997 employee roster numbered at 152,000 worldwide.

R.J. Reynolds R.J. Reynolds Company, the tobacco arm of the RJR Nabisco Holdings Corp., claims second rank in the U.S. tobacco industry. R.J. Reynolds had long been the world's largest tobacco firm until Philip Morris eclipsed its position in the early 1980s (Philip Morris had already overtaken Reynolds in the U.S. market a few years earlier). R.J. Reynolds has nonetheless remained a formidable competitor with such brands as Camel, Winston, and Salem cigarettes, although negative publicity forced it to withdraw its popular Joe Camel marketing campaign in 1997. At the same time it attempted to revive sales of Winston, its leading brand, with a new campaign entitled "No Bull," an attempt to highlight that the product contained no additives. Like Philip Morris, R.J. Reynolds pursued diversification in the 1980s by purchasing a major food company—in this case, Nabisco Brands, Inc. In the late 1990s R.J. Reynolds held an estimated 25 percent of the U.S. cigarette market, and the company's tobacco line generated 1997 sales of $8.3 billion globally. Its tobacco business employed about 26,400 of the parent company's 80,400 workers. In 1997 RJR Nabisco had revenues of $17 billion, of which about 17 percent was profit.

U.S. Tobacco Though it's much smaller than the leading cigarette companies, the United States Tobacco Company is the world's largest producer of chewing tobacco, with such leading brands as Copenhagen and Skoal, and also is a top U.S. manufacturer of cigars. First incorporated in 1911, the company is owned by the public holding company UST Inc. Tobacco sales (excluding cigars) made up 84 percent of the firm's $1.4 billion in 1997 sales. A full 32 percent of sales that year were operating profits.

Industry Projections

In the early the 2000s, tobacco makers will continue to find some of their most lucrative opportunities outside the United States. According to estimates from Standard & Poor's, the international market for American-style cigarettes increased steadily throughout the 1990s, at a compound rate of about three percent annually, and accounted for more than one-third of sales internationally by 2000. The industry's continued health at home hinges on the outcomes of its numerous legal battles, which, if not resolved on terms favorable to the industry, could severely curtail domestic profits.

Global Presence

While the United States is one of the world's biggest tobacco markets, other countries also offer strong prospects for the tobacco industry. Tobacco sales are rising faster in many international markets than they are in the United States, and in some cases there are fewer social and regulatory hurdles facing tobacco companies abroad. At Philip Morris, for instance, non-U.S. tobacco sales during 1997 were almost twice as large as the company's revenue from its home turf. Worldwide tobacco sales exceed $275 billion each year.

China is both the world's largest producer and consumer of tobacco products, averaging twice the annual production of the United States, the world's second-largest player. China's tobacco industry functions as a monopoly, a common practice in Asia, under the control of the China National Tobacco Company. Thailand, South Korea, and Japan have historically had national tobacco monopolies as well, although the Japanese government began to privatize its industry in the mid-1990s. Government-run tobacco businesses also exist in certain European countries, notably France, Italy, and Spain, but the trend there is also toward greater privatization. Prominent European tobacco companies include British American Tobacco PLC (United Kingdom) and Reemtsma (Germany).

Employment in the Industry

As in most U.S. manufacturing industries, employment in tobacco production has declined since the 1980s, according to figures compiled by the U.S. Bureau of Labor Statistics. From about 56,000 workers as recently as 1988, industry employment ranks dropped to about 41,000 people by 1998. Production workers (as opposed to management and administrative employees) make up about three-quarters of the tobacco labor force. In 1997 the industry's production employees earned an average of $19.20 per hour, higher than the average for U.S. manufacturing positions in general. On average, the tobacco manufacturing work week in 1997 totaled about 39 hours.

Sources for Further Study

"100% smoke-free ordinances." american nonsmokers rights foundation, 13 march 2002. available at

"alcoholic beverages and tobacco." standard & poor's industry surveys, december 2001.

"the anti-tobacco troops smell blood." business week, 1 april 1996.

"decision against pmi (philip morris companies inc.) tops list of 2001 jury awards." tobacco retailer, february 2002.

flanigan, william g. "cigar madness." forbes, 21 april 1997.

occupational employment statistics. bureau of labor statistics, u.s. department of labor, 23 march 2002. available at

reynolds, patrick, and tom shachtman. the gilded leaf: triumph, tragedy, and tobacco. boston: little, brown and company, 1989.

"tobacco." hoover's online, 13 march 2002. available at

"the tobacco deal: smoke and mirrors?" business week, 25 august 1997.

"trends in tobacco use." american lung association, epidemiology and statistics unit, february 2001. available at

About this article

Industry Profiles: Tobacco

Updated About content Print Article


Industry Profiles: Tobacco