Dresdner Kleinwort Consumer Staples ... - Imperial Tobacco

Titus Wouda Kuipers 

Good morning ladies and gentlemen. 

My name is Titus Wouda Kuipers and I am the General Manager for Sales and Marketing in Germany and 

Austria. I am joined today by John Nelson-Smith, one of our Investor Relations Managers, and Sebastian 

Blohm, our Media Relations Manager in Germany. 

Agenda 

I will start by giving a brief introduction to Germany with some macro-economic facts. I will then give you 

an overview of the German tobacco market with details of recent dynamics and the route to market. 

I will then briefly look at how Imperial and also the other main tobacco companies are performing in the 

different market segments before finishing with some insights into our key brand activities. 

Macro-Economic Facts 

When discussing the German market in the context of the tobacco sector, there is one key fact that 

needs to be mentioned: its location in the heart of Europe. 

Germany is placed in the middle of Europe with no less than nine different bordering countries. To the 

north and west you have Denmark, The Netherlands, Belgium, Luxembourg and France; in the south you 

have Switzerland and Austria and to the east you have Poland and the Czech Republic. 

Whilst you might think that its central geographical location would have many advantages, for the 

German tobacco industry it has one significant disadvantage, the ease with which non duty paid 

cigarettes can be brought into the country given the difficulty of controlling all the border crossings. 

I will cover this point in more detail later on but let me just mention at this stage that the enlargement of 

the EU towards the east and the current price differentials due to the varying national taxation policies of 

these accession countries, have contributed significantly to the increase in cross-border inflows. 

Since the reunification of Germany in 1990, the integration of the West and East economies has been 

ongoing and this has had a major impact on slowing down the overall GDP growth of the country. But 

having said this, the economy is still going through a growth period. 

Of the total population of 82 million, some 8% are immigrants, mainly from the east. Whilst inflation is still 

rather moderate at 2.6%, unemployment remains high at over 8% but it has recently started to fall. 

Our current estimate is that around 30% of the adult population are smokers, a figure which has been 

relatively stable over the last few years. This compares to around 22% in the UK. 

Market Dynamics 

Let’s now move on to look at the market dynamics which currently influence the German tobacco 

market. 

Market Dynamics – volume development 

We have seen a steady decline in total white stick market volumes over the last few years, from 162 

billion in 2003 to around 127 billion sticks in 2007. 

Please note that all figures mentioned in this presentation refer to our financial years ending on 30th 

September. 

This decline is due to two main factors: a series of significant tobacco duty increases since 2002 and the 

change in the basis of taxation of the make your own Singles product in 2006 from being classified as a 

fine cut tobacco product to being a cigarette. 

www.imperial-tobacco.com 

Dresdner Kleinwort Consumer Staples Conference 

04 April 2008, Frankfurt 

Information correct at 04 April 2008




There were five successive duty increases between 2002 and 2005 by at least one euro cent per stick 

each time. These had a significant impact on duty-paid volumes as consumers switched to legal and 

illegal imports. However, the overall rate of decline in consumption is similar to that in other western 

European countries. 

However, one of the positive trends to have taken place in recent years from our point of view, is the 

decrease in the level of Private Label factory made cigarettes. 

Whilst it is our policy to have at least one of our brands in each price segment, in this environment, it is 

tremendously important to offer the price-sensitive consumer quality products at an attractive price. 

Following the change in the taxation of Singles, we saw a further shift from duty-paid OTP volumes to 

legal and illegal imports. 

Market Dynamics – price segments 

If we look at the different cigarette price segments, you can see that an interesting development has 

taken place in recent years with the establishment of a fourth price sector in March 2004. Prior to this, 

there were only three major cigarette price ranges: the mid/premium segment, a separate pricing sector 

in former East Germany and the Private Label sector. 

Private Label brands are specific to large supermarkets, such as Aldi and Lidl, and are therefore 

restricted in their availability, compared to branded brands, which are available in all forms of retail 

outlets. 

By 2004, Private Label had reached a market share of about 16%. In March of that year, Imperial 

launched JPS just above the Private Label price to create a new “fourth price” sector. Competitors 

followed with the repositioning or launch of their own brands at a similar price. 

Since then, Private Label’s share has fallen steadily, now down to below 13%, whilst that of the fourth 

price sector has grown by picking up some of this share as well as benefiting from downtrading. 

Branded offerings in the market now range from €3.60 to €4.00 with Private Label 35 Euro cents below. 

The successful establishment of a fourth price sector again underpins our strategy, not only to focus on 

volumes but also on margins. 

Market dynamics – other tobacco products 

Given the dramatic increase in other tobacco product volumes, it is certainly worthwhile spending some 

time focussing on this segment. 

Within OTP, there are five categories. 

Firstly, traditional fine-cut tobaccos, which are loose tobaccos for roll your own cigarettes used with 

hand rolling papers. 

Next is the former so-called Singles make your own product in which a pre-portioned rod of tobacco 

was injected into a filter tube with a pen-like instrument. The EU Commission ruled that this process was 

too similar to a factory made cigarette and so, from April 2006, the German government was forced to 

change its taxation from the lower fine cut tobacco rate to that of cigarettes. 

At their peak, annual sales of Singles reached around 27 billion stick equivalents but obviously ceased to 

be a value proposition with the tax change. 

Then we have the new make your own products, where the tobacco volume has been enhanced 

enabling the consumer to make more cigarettes. Once again, the loose tobacco is injected into a filter 

tube using a special instrument to make the cigarette. This category was launched in March 2006 as an 

alternative product for Singles consumers. 

The XL products are 180mm long tobacco rods, taxed as two cigarettes, which can be cut into smaller 

lengths and inserted into a tube. 

And finally, eco-cigarillos, which are cigarillos with a filter, attractively priced as they are taxed as cigars. 





The growth in the OTP sector has mainly been driven by downtrading due to the tax increases between 

2002 and 2005 and the popularity of Singles prior to the tax change. 

Market Dynamics – Singles transition 

With the change in the taxation of Singles, it was important that we managed the migration of former 

consumers to alternative products. 

Whilst our original estimate of the migration process was that 1/3 of consumption would switch to 

alternative OTPs, 1/3 to factory made cigarettes and 1/3 to cross-border, we actually saw quite a 

different picture. 

The actual outcome was that 55% moved to alternative other tobacco products, 20% moved to low 

price branded cigarettes, as well as Private Label, and 25% moved to non-duty paid cigarettes. 

The migration process finished in 2007 and it is that year’s figures which will form the new base for each 

of the segments going forward. 

Market dynamics – cigarette tax 

I have already said that the successive tax increases in the last six years have significantly impacted duty 

paid cigarette volumes. 

Under the heading of Terror Taxes, in 2002 and 2003 the duty on the most popular price category (mppc) 

rose by 1 and 1.1 cents per stick respectively, as a contribution towards the increased costs of security 

against acts of terrorism. 

In 2004, the three stage Health Tax was introduced with a 1.2 cent per stick increase in both March and 

December of that year and an additional 1.2 cent per stick being imposed in September 2005. 

With the last of these, Philip Morris, the market leader, passed on the tax increase to consumers by 

reducing the pack size from 19 to 17 cigarettes in order to keep the price of their main brand, Marlboro, 

below the €4 price point. All the other manufacturers followed. 

In October 2006, we increased prices in advance of the VAT increase from 16 to 19% from January 2007 

and the rise in the minimum tax rate from mid-February 2007. 

No further tax increases have currently been announced. 

While the tax incidence has been quite stable over the last 5 years, we have been able to gradually 

improve our margins with manufacturer’s price increases, or MPIs, and a focus on maintaining or 

reducing our cost base. 

Market dynamics – MPIs since October 2006 

Since October 2006, we have taken a number of specific MPIs. For example, in October last year we 

raised the price of our big boxes by 10 cents and followed this in December with an increase of 20 cents 

on our 100mm cigarettes. 

And earlier this year we put up the prices of our fourth price sector brands, such as JPS and Route 66, 

for all pack variants. 

At the same time, we also raised the price of our East German brands, such as Cabinet. 

Private Label brands have not taken an MPI since last summer, when they belatedly passed on the VAT 

increase to consumers. 


Market dynamics – cross-border flows 




As mentioned earlier, I would now like to go into the issue of cross-border inflows in more detail. 

After many years of moderate cigarette inflows into Germany, we saw a significant rise of both legal and 

illegal product following the tax increases between 2002 and 2005. 

On a national level, the amount of cross-border inflow is currently estimated at around 20%, more than 

twice the rate of 5 years ago. 

As you can see, we have very different situations in the western and eastern parts of Germany where 

inflow rates amount to 14% and 37% respectively. 

The reason for this is very simple. If you compare the price of a pack of Marlboro between Germany, at 

an equivalent of around €4.70 for 20, and the neighbouring countries like Poland, Ukraine and Russia, 

where prices range from €2.00 to less than €1.00 for the same number of cigarettes, it is quite obvious 

what makes cross-border flows so attractive to the consumer. 

In this context, the EU minimum tax level plays an important role. When the accession countries joined 

the European Union in May 2004, each of them was given a derogation period by the end of which their 

tobacco duty rates had to have reached the EU minimum tax level of €64 per thousand cigarettes. 

The majority of these derogation periods were either to the end of 2007, for the Czech Republic for 

example, or 2008, as is the case for Poland. Once the EU minimum tax level is reached, the amount of 

cigarettes which can legally be brought into Germany from these countries increases from 200 to the EU 

indicative limit of 800. 

Although there is evidence that the rate of increase is slowing down, we still expect the level of crossborder 

inflows to continue to rise in the near future. 

Obviously both the German government and ourselves are concerned about the level of cross-border 

flows and we are working together in order to improve controls. It is estimated that the government has 

lost more than €4 billion in tax revenues in 2006 alone. 

Market dynamics – smoking restrictions 

Apart from the fiscal framework, we have also seen some significant changes in the German market with 

the introduction of smoking restrictions. 

Whilst on a national level, clear regulations banning smoking in public places, such as in public buildings 

and on public transport, have applied since last September, the position is very varied from one State to 

the next. Smoking restrictions are only being imposed on the hotel, restaurant and café trade and not in 

workplaces. 

Of the 16 States, or Landers, restrictions in one form or another have been introduced in 14 of them. 

The strictest ban is currently to be found in Bavaria, where a complete ban on smoking in public places 

is in force with no exceptions permitted at all. However, as some of you might have read recently, there 

has been a very lively local debate about the impact of the law during the Oktoberfest, which has lead to 

an exception being introduced for beer tents in 2008. 

In the remaining 13 States, smoking is permitted in separate rooms. The last two States will introduce 

restrictions in July of this year. 

There are currently a number of legal actions being brought against some States, mainly driven by 

consumers and bar owners, on the question of whether or not to exempt small bars and pubs from the 

ban. It is not possible to predict the outcome of these cases at this point of time. 

It is still too early to determine the actual impact of the smoking bans on market volumes but, based on 

experiences in other countries, such as Ireland and the UK, where total bans on smoking in public places 

have been introduced, not only in horeca, we estimate the initial impact in Germany to be between 3 and 

5%. 

However, this diminishes over time to a one-off impact of around 2%. 


Market dynamics – advertising restrictions 




Another regulatory requirement we are also facing is increased restrictions on advertising our products to 

the market. 

Compared to the rest of the European Union, Germany is still a relatively liberal market in that we are still 

permitted to advertise our products on bill boards, in cinemas and at points of sale. 

An advertising ban came into effect for print media and internet in January 2007, except for the trade 

press, following total bans on TV and radio introduced in 1974. 

Market dynamics – vending packs 

Let’s move on to look at the importance of the vending channel in the cigarette market. 

Germany has the highest number of vending machines per capita in the world. Not so long ago, 23% of 

all duty paid cigarettes were sold through them. 

One of the reasons for this high figure is that the law insists that the price per stick is the same in 

vending machines as it is in retail outlets. So, unlike in the UK where vending machine prices tend to be 

at a significant premium to those in shops, the German consumer is not disadvantaged. 

However, the number of vending machines has dropped from around 800,000 two years ago to currently 

around 450,000 today. Inevitably, sales through this channel have also dropped. 

Until 2006, vending machine sales volumes moved in line with the overall cigarette market but in January 

2007, the industry implemented youth access prevention measures, mainly based on a maestro card 

technology. 

There were teething problems with initial implementation, which resulted in many consumers struggling 

to accept and understand the new technology. This resulted in sales dropping dramatically to around 

16% of the cigarette market. 

Market dynamics – route to market 

The final dynamic of the German tobacco market I would like to cover is the route to market. 

The market is divided into the following channels: On the one hand you have the tobacco retailers, petrol 

stations and others, such as hotels, kiosks and canteens. These so called “over the counter” channels 

make roughly half of the sales, with petrol stations being the most important channel. 

On the other hand, we have the vending machines and food retailers. Looking at the current sales figures 

between our 2006 and 2007 financial years, you will see that there has been a migration of consumers 

from the vending channel to other channels, especially petrol stations and food retailers. 

In-Market performance 

Moving on to look at the in-market performance of both Imperial and other tobacco manufacturers. 





In-market performance – cigarette share development 

Having looked at the landscape in which we are operating, I’m pleased to report that we have increased 

our cigarette market share progressively over the last three years, now up to over 21%. 

This rise has been mainly driven by the successful development of JPS in the fourth price sector. The 

current Altadis share of 5.8% is predominantly represented by Gauloises Blondes. The combined share 

of over 27% puts us in a very strong N° 2 position in the German market behind Philip Morris and well 

ahead of BAT. 

As I mentioned earlier, the share of Private Label continues to decline. 

In-market performance – OTP share development 

Our declining OTP share can be attributed to the loss of Singles, in which we were the market leader, 

and increased competition as other manufacturers introduced new products into the sector in order to 

capture some of the former Singles consumers. 

In addition, our share of the eco-cigarillos sector was impacted by the ban on the unfiltered variant in 

June 2006 as well as the introduction of very low priced brands by Private Label. 

From 1 January 2008, the definition of eco-cigarillos changed. In order for manufacturers to benefit from 

the product being taxed as cigars, specific requirements have been introduced relating to the minimum 

weight, the spiral wrapper and the way in which the tobacco is cut. 

At this stage, it is not possible to estimate the impact of these changes on the product category. 

Brand performance 

To finish up with, I would like to focus on the performance of some of our brands in recent years. 

Brand performance – portfolio 

We have a strong, multi-product portfolio covering all sectors of the tobacco market. We have our key 

international brands Davidoff, West and Gauloises cigarettes and Drum roll your own tobacco. We have 

national brands such as JPS, Route 66 and Van Nelle as well as Cabinet, which is unique to eastern 

Germany. 

This broad hand of cards gives us the opportunity to gain further market share and the possibility of 

benefiting from consumer choice. We have brands in all cigarette price segments and have a strong 

presence in the fine cut tobacco sector. 

Following the acquisition of Altadis, the addition of Gauloises Blondes with around 5.5% cigarette market 

share, will be a great asset to our portfolio and further enhance our position. 

Brand performance – cigarette brand families 

Looking at the individual cigarette brand performances, the first thing you will notice is the outstanding 

performance of JPS. I will talk about this in more detail in a moment. 

The market share of West in the mid-price segment has been under pressure from general down trading 

following the significant duty increases in recent years. 

Also, but not to the same extent, the market share of Davidoff in the super-premium segment has also 

been under pressure for the same reasons. 

Other brands such as R1, have remained pretty stable over time. 


Brand performance – OTP brand families 




Looking at the OTP brand performances, it is a similar picture with JPS gaining market share to 7.7% 

while West has been affected by downtrading. 

Also, West was particularly impacted by the end of Singles as it was the long time market leader in this 

segment. In 2007, we decided to take West eco-cigarillos out of the market as all premium products in 

this segment had lost market share due to consumers seeking value offerings at very competitive prices, 

particularly by Private Label. 

While West and JPS have products in many segments, Drum and Van Nelle are only available as 

traditional fine cut brands. 

Route 66 is a new OTP brand which we launched in late 2006. We started with a make your own product 

but expanded shortly thereafter into eco-cigarillos, pipe tobacco and, last year, into cigarettes. 

We are confident that Route 66 has good potential for success in the market. 

Brand performance – JPS 

I would just like to focus on a couple of our brands for a moment, starting with John Player Special, or 

JPS as it is more commonly known. 

The Black and Silver variants of JPS have been well known for many years in other European markets. 

In 2004, we decided to launch a new JPS cigarette pack in Germany: JPS Red. 

With a current value price of €3.60, just above Private Label, excellent product quality and a convincing 

marketing campaign, we managed to double market share of the whole JPS cigarette family from one 

year to the next, growing faster than any other cigarette brand in the country. 

Following its success as a cigarette brand, we quickly introduced make your own, roll your own and ecocigarillo 

products to take advantage of its increased brand awareness. 

In addition to the Red variant, we subsequently introduced the smoother JPS Blue version. 

Brand performance – Route 66 

The other brand for which we have high expectations is Route 66. 

In 2006, we decided to introduce a new value brand to the German tobacco market. With Route 66 we 

had a strong brand with an international image and design. 

We started with a new make your own tobacco and eco-cigarillos in late 2006 and then introduced two 

cigarette products in 2007, currently priced in the value segment at €3.60 per pack, supported by 

extensive marketing campaigns. 

Initial market reactions and sales figures have been encouraging and lead us to believe that Route 66 has 

good potential. 

We have therefore decided to introduce a new brand campaign this April. With the phrase “join the ride” 

and an image driven message, we hope to benefit from the strong brand heritage and further build up 

brand value. 

We produce two variants, Original and Blue. 


Summary – outlook 




That brings me to the end of my presentation. Let me just quickly summarise the key elements. 

Undoubtedly, we are in a challenging market environment but we feel we are well positioned to meet 

these challenges with our strong multi-product portfolio. 

With our volume and profit orientated products, price strategy and innovation strengths, we are able to 

meet the changing preferences of consumers. 

In addition, we are well known for our obsessive focus on saving costs by improving efficiencies, thereby 

driving profitable growth. With the benefit of our highly motivated and focused sales organisation, we are 

confident in our ability to deliver future benefits for our shareholders. 

Thank you very much ladies and gentlemen for your attention, I am happy to take any questions you may 

have.

Dresdner Kleinwort Consumer Staples ... - Imperial Tobacco

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