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Morgan Stanley predicts 'nicotine maximum' policy could halve tobacco profits

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Profits of leading US tobacco companies could be cut in half if the Food and Drug Administration adopts a "nicotine maximum" rule in the next 15 years, according to analysts Morgan Stanley.

The FDA is expected to publish in October its proposed rule regulating the amount of nicotine allowed in cigarettes and other tobacco products "so that they create minimal dependency," according to the agency. The rule, if adopted, "would have significant benefits for public health" and "potentially significant economic benefits," the FDA said.

The regulation, if passed by 2035, would also cost the industry about $ 165 billion, Morgan Stanley analysts said in a research report released on Sunday.

"Reducing nicotine in cigarettes to non-addictive levels or minimal dependence, in our opinion, could change the game for the US sector," analysts wrote. Morgan Stanley was underweight the shares of Imperial Brands and Marlboro, the maker of Marlboro, which is an effective selling recommendation, and downgraded British American Tobacco to underweight.

If this policy comes into effect by 2035, however, Morgan Stanley predicts that tobacco stocks will suffer, while the electronic cigarette giant, Juul, will benefit when consumers switch from tobacco to steam. This is even more bad news for Big Tobacco, which has been facing a drop in sales in recent years due to new competition and changing consumer habits.

The proposed rule change would be bad news for investors, as it would save about 20% on the market value of Altria, 13% on British American Tobacco and 5% on Imperial Brands if the FDA implements in 2035.

These numbers are even more disturbing if the regulations are implemented a decade earlier. Altria's market capitalization is expected to fall by 37%, while British American Tobacco and Imperial Brands would see their market value fall by 32% and 15%, respectively.

Morgan Stanley predicts that the number of adult smokers in the United States will increase from 34 million, about 13.2% in 2018, to 14 million by 2030, or 5% to less than 1% of the adult population. 39, here 2050, even without the proposed nicotine. regulation. The bank said it expects that a pack of cigarettes will cost about $ 16 to smokers by 2035.

If the FDA regulates nicotine levels in cigarettes, society thinks that smoking will drop to zero.

"We do not think that a smoker will continue to buy non-addictive cigarettes, especially in the presence of alternative nicotine delivery devices," analysts wrote.

Marlboro's maker, Altria, is most at risk if the FDA promulgates the policy of maximum nicotine consumption, analysts said. However, they added that the company was "best placed" to focus on alternative nicotine-based products because of its 35% stake in the Juul vaping company and its agreement with Phillip Morris for the sale of the drug. PMI heated tobacco product, iQOS, in the United States.

Analysts have said that British American Tobacco "has a difficult track to follow in the United States." because of its "underlay" of electronic cigarettes and heated tobacco products. According to Morgan Stanley, BAT holds only 10% of the electronic cigarette market, compared to 70% of Juul's market share. They also stated that the company's heated tobacco product, Eclipse, was less successful than iQOS.

Morgan Stanley said it maintained an underweight rating on Imperial Brands shares, as 23% of its profits are from US cigarette sales and its brand portfolio is relatively small.

Tobacco inventories from mid-2017 to early 2019 have fallen by about 40% due to the explosive growth in Juul's market share, potential menthol regulation and lower cigarette sales. , according to Morgan Stanley.

Analysts said they did not believe the stock price fully reflected the risk associated with the maximum nicotine proposal and that it was likely that the policy would be a permanent headache.

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