Goldman Sachs warned Big Tobacco it sees a $5bn annual profit hit from the impact of plain packaging on cigarettes, which the UK will impose next March and other countries following Australia’s lead in the next few years.
As a result of the long-term impact, Goldman downgraded British American Tobacco (BAT) to ‘sell’ and removed fellow FTSE 100 cigarette giant Imperial Tobacco from its ‘conviction buy’ list, but maintained its ‘buy’ recommendation.
“Tobacco multinationals have enjoyed above-inflation pricing owing to the favourable tax and regulatory backdrop and its restrictive effect on competition,” the investment bank said in a note.
“However, three years since its introduction, plain packaging regulation, combined with tax increases in Australia, appears to have driven considerable disruption to the industry profit pool.”
Imperial’s profits have a considerable has a 15% EBIT exposure to the UK market and Goldman estimates a 15% downside risk to the company’s UK profit post plain packaging adoption, with “more downside than upside risk” in the UK as the company has a leading position in cigarettes.
But the investment bank still noted that it had performed impressively in Australia since plain packaging was introduced in 2012 and is expected to be a potential beneficiary of plain packaging outside the UK.
On the other hand BAT is forecast by the bank’s analysts to be the most exposed of the Big Tobacco groups to the next wave of potential plain packaging adoption beyond the UK and Ireland.
Goldman estimates the company’s exposure to key markets such as France, Canada and others currently considering plain packaging to be circa 21%, resulting in an estimated 5% downside to group profits in a scenario of these markets adopting the regulation.
Furthermore, group earnings have not grown materially since 2012 and analysts predict forex to continue to hold back growth in 2016.
Imperial’s target price of 3,800% offers around 8% upside, while BAT target of 3,350p a downside of roughly 12%.
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