The Murky World Of Cigarettes Pricing 🚬 Podcast Ep. 87
In this episode of Pricing College, we take a look at cigarette pricing strategy and ask what the Marlboro man can tell us about marketing now that he is basically banned.
We look at the tax collection role cigarette companies now play.
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Notes on the time-stamped show:
[00:00] Introduction
[03:03] Are cigarettes considered an inelastic product?
[04:02] Does being inelastic products impact the cigarette pricing strategy?
[05:24] Joanna explains how the cigarette pricing strategy was changed as a result of the customer’s new purchasing behaviour.
[07:41] Aidan explains the marketing and branding of cigarettes.
[10:36] The major problem for cigarette companies in market channels is
[15:00] The real business model and cigarette pricing strategy in developed economies where there are significant restrictions on selling tobacco.
[17:44] In line with the challenging cigarette pricing strategy, there’s talk of the major cigarette companies joining forces now to keep the industry running.
What is a cigarette pricing strategy?
In today’s episode, we’re going to salute that time-honoured Aussie tradition of having a cigarette break. I think it’s called a “Dury” or “Dora”? or maybe I’m exposing myself as not Aussie enough. But you know what we’re talking about.
We thought it’d be a good topic to discuss, especially with the fairly recent tax increases on cigarettes. And the subsequent price rises that cigarette companies have been enforcing since 2020.
Now, both the tax and the price rises have been pretty substantial. I think over the last eight or so years, the tax increases have been in 12.5% increments over eight years, which is huge.
So, for the most part, the cigarettes that people smoke are now heavily taxed at well under 50%.
As a consequence, cigarette companies have had to raise prices. So now we see massive price market positioning as well as new tactical plays in the market to encourage new smokers to smoke as older smokers may give up or die.
When you start thinking about the cigarette industry, you realise that it’s a pretty unusual and challenging industry in many regards.
We’re going to completely ignore that in this episode purely for convenience’s sake, the moral aspects of it, etc. Some people are obviously very against cigarettes.
But we’re going to use the example of selling, marketing, the value, etc., of cigarettes if you work in that industry. So she could think about your own industry, whatever it is.
When you sell, like cigarettes, obviously, I suppose in the Western world and most developed and developing nations. You build a huge percentage of the population.
Smoking was probably, if not over 50%, of the auto-population at some point in the 1950s and 1960s. It has declined since then.
But clearly, it’s still a large number. But it faces an awful lot of issues.
So, in this episode, we’ll kick around some ideas about how you market that product..
- What is the value of it?
- The malleability of cigarettes what is the current business model for cigarettes now?
- And is it what we think it is?
So we all think of cigarettes as being a very inelastic product.
But since the subsequent price rise, what companies are finding now is that some customer segments are much more elastic. That those segments tend to be the ones that are giving up.
The massive tax increase added to cigarettes is simply a great incentive to do so as soon as possible. So it’s accelerated, people giving up in those segments.
However, what the cigarette industry is also finding is that in certain sub-segments. Which happen to be the most socially deprived segments. Cigarette consumption is still inelastic.
So it doesn’t actually matter how much the price goes up when taxes are added. Those segments are still consuming cigarettes.
We could be getting into the classic economic concept here of the Giffen Good, whereby it’s reversed taxation almost.
Where it may affect lower-income people more than higher-income people. But there is an aspect where people are prepared to buy that product even as the price increases.
It could be that it’s an affordable luxury even given the pricing where it is now. Which I think in Australia is roughly around $40 per 20 cigarette pack. So it is very expensive, especially if you’re a 20-a-day smoker or even more.
So it really does add up. But maybe it’s one of those affordable luxuries that still falls into that category and that people want. Yeah, it is inelastic and that’s obviously the reason why people put a huge amount of taxation on it.
But I suppose the other thing is inelastic, but not, particularly the products themselves.
You can’t swap from one brand of cigarette to another. Because, in reality, the tax is applied or lifted at the same level. You’re not going to shop around for the cheapest one.
To a large extent, it’s either you make the life-altering decision that really is a medical choice to a large extent by quitting cigarettes.
Cigarette pricing strategy: The customer’s purchasing behaviour
This is actually a really interesting point, Aidan. Because since the price increased and the taxes were added. Cigarette companies are actually finding people to be less brand loyal than they ever have been.
So, say, even about 10 years ago, people really wouldn’t have considered swapping brands based on price. They’d be quite loyal to the brand. There’d be Marlboro smokers, there’d be Embassy smokers, you name it, they would stick to that brand because they know it.
However, since 2020, there’s been much more brand swapping. Even changing the type of cigarettes could be vaping now. Or people will be prepared to switch towards the end of the month when their budget runs out to lose cigarettes.
Roll your own tobacco cigarettes, simply to aid the addiction and to keep in line with the budget. They can’t afford the brands that they want. So they have to downgrade.
What are the cigarette industry and the government’s response to this new behaviour?
Well, initially a tax was imposed on traditional cigarettes. But now the massive tax has been applied across the board to rolling around tobacco cigarettes because this is where the markets moved.
So what cigarette companies are doing now is really thinking about something. Almost like choice modelling, across a month to see how customers are consuming different varieties of cigarettes. And tobacco to aid their addiction.
So, companies are now thinking about how they can accommodate changing preferences across a month too. The interesting thing here is that now more than ever, cigarette companies are tracking consumption.
Because before, they could just guarantee that people would smoke a certain brand in a certain way. People’s preferences change over time. Even across a month when they get their money and when the money runs out towards the end of the month.
So this is a really interesting point.
Cigarette Pricing Strategy: Marketing and Branding of Cigarettes
I think we’ve touched on a couple of topics there. I suppose one marketer would know more about this. Obviously, the value of the brands could potentially be decreasing as marketing and imagery. Which used to be so important for cigarettes, have decreased.
Items such as the Marlboro Man and, without a doubt, Rathmines.People that he used to advertise at Formula 1 races.
It was always very much a visual aspect, and even people old enough to remember cigarette ads on TV. It did sell that lifestyle of being cool and independent, whatever that was. Whether it was a cowboy or whatever it was, or motor racing.
So that is decreasing. It certainly has decreased over the last X number of years. Potentially, that might be driving or swapping between different brands.
One other thing I would say is that due to COVID, certainly in Australia. International travel has massively decreased to almost zero.
So duty-free shopping will also hit almost zero. A lot of people would have taken advantage of the duty-free shop in years gone by to get those cartons. The 40 packs or whatever it was that they would have topped them up throughout the year.
Also, in duty-free shops, you’ll always notice that the visuals behind the marketing and branding are much stronger. You can still see the packaging and nearly all those locations, which is now something of a heritage aspect almost everywhere in Australia.
So, those were the only two topics that contributed to that.
I suppose the other thing I’d say about cigarettes is that we always talk about them as an addiction.
But people have many addictions, whether it’s gambling, alcohol, or spending all their money on a sporting team that they love.
Some people just enjoy cigarettes, and we can never dismiss that. So they enjoy them.
They enjoy their flavour, they enjoy the feeling it gives them. It could even be the attitude that makes them think more at certain times. Those aspects that people value, that’s the value driver that people have.
One thing I recently discovered while doing some research for this podcast is that you can buy cigarettes online. And when you buy online, you can still see the packaging a little bit more.
There is still that exotic aspect to certain brands, like Davidoff and some of the French and international brands. A bit like international beers, where people might be reminded of holidays, when they were younger, or those sorts of aspects.
Branding is probably still the flavour.
Those things do play on the mind, and that’s good for marketers. I remember reading that smell is a big thing to help people remember things.
If you smell a certain smell, whether it’s cooking or coffee or whatever it is, it can bring you back to a time and a place. Let’s be honest, cigarettes certainly smell.
Cigarette Pricing Strategy: The cigarette company problems with channels to market.
So, in terms of branding, cigarette companies have found that the packet itself, the design, the brand, and the colours used are still the number one driver of purchase.
I suppose the number one brand that most people, even today, still recollect or recall when asked is Marlboro. Marlboro is still the number one brand. It has the greatest brand presence of all brands.
But the problem, really, even for Philip Morris and those major corporations, is that one of the main channels to market supermarkets is the number one.
Supermarkets aren’t legally allowed to display cigarette packets. They’re locked up in a cupboard where you can’t see them.
Then when the cashier opens up the cupboard or you do see those horrible images of rotting teeth, or cancers, or other stuff that’s really unappealing. There is nothing quite like the brand positioning and brand image that companies actually want to show potential customers.
They’re actually there to put new customers off. For our existing customers that are used to smoking, it has been shown not to put customers off showing those diseases and bad teeth. Because they’re addicted, that’s what they’re going to continue to do.
Equally, with the price points, it’s very difficult to track the changes in prices.
Because they’re in a cupboard or you can’t see the differences. So very often, and legally speaking, different cigarettes can’t compete with competitive brands. Often, they end up competing with their own brands if they start making any pricing changes anyway.
So week by week, what actually happens are two things. There are new channels to market because existing channels to market can’t provide a brand. And the brand is the number one driver of purchases.
So, they use online avenues that are highly I suppose it’s unregulated compared to more traditional channels of marketing. It’s much harder to track changes online than it is in store.
As for the next point, unlike any time before, cigarette companies are using both price positioning and tactical discounting on a weekly basis. It’s not as fixed as it used to be. Pricing has become much more active.
However, the price range within which they’re discounting is very, very tight. It’s almost between $25 and $27.
If you go below and above, this causes a below margin loss, an unnecessary margin loss. And above all, people switch to cheaper brands.
The cheapest brand was about $30, and the optimal price point is around $50 for a pack of 25 cigarettes. There are a lot of different revenue plays in the market.
But the essential one that’s really driving the strategy at the moment is…
- How can multinational cigarette companies acquire new customers?
- This is where the new businesses are, what’s happening?
[A] It’s through the Internet, through promotion, subtle promotions through social influences.
If you look into it a bit more, you’ll see that a lot of social influences actually smoke. Some of these social influencers have, to some degree, some alliances with cigarette companies.
Now that is a great way to promote a brand. It looks cool. Consider 1930s cinema and how it glamorises the cigarette. The same things are occurring online, and young people have been exposed to these sorts of images, associating smoking with being cool.
[B] The second thing is that they’re actually branching out into developing economies like Africa, India, and China, where it’s still highly unregulated.
It’s still possible to show the Marlboro Man looking cool on a billboard. That’s all okay. Whole populations are being exposed to those sorts of promotions, as the US, UK, and Australia were many years ago.
So the same tactics are being played, just in a different way.
One thing I’ll say I think about cigarettes is that I suppose there’s been so much push to stop people from having them.
So much drive has been based around that. You can’t smoke, and you can’t advertise. There have even been situations wherein certain countries have gone back with technology. And removed those movie stars and the cigarettes that they used to smoke and made it look as if it was all clean.
I will even say, again, in a Hollywood movie nowadays. It will be more socially acceptable to see a scene with someone taking heroin than to have a few Marlboros with a brand visible.
So that’s by far the way things have changed. And one thing I would say is that with all this pushback, I would say now that a lot of people are sick of this.
They’re sick of being told what to do, and a certain category of people will always want to rebel against that. So cigarettes are seen, as you know, as a tool of rebellion.
The Torch of Liberty was an Edward Bernays advertisement back in the 20s to encourage women to smoke at that point in time. So they’ve always had that image.
I would really think, certainly in 2021, an awful lot of people just want to tell the government and medical people where to go. They feel every aspect of their lives has been ruled, whether they agree or not.
There’ll be a certain percentage of people just clocked out that just do not care anymore. I think we’ve talked quite a bit in this podcast.
One thing that we wanted to talk a little bit about was: what is the real business model is known to tobacco companies, or cigarette companies? in developed societies or in developed economies where there are significant restrictions on selling tobacco?
Recently, I spoke to somebody who works for a major tobacco company. They described their business as fundamentally one of tax collection.
A licence for tax collection with the ability to invest those funds in overnight deposits. And the investment that counts has to make returns before they have to pay that tax to the government.
So in theory, a $40 packet of cigarettes, let’s say $35 of that is government duty or government taxation. They have the licence to collect that money. And they have the ability to collect that money.
Hold it in their own company accounts for a period of time until they have to make a payment to the government. They employ quite a team of accountants, lawyers, etc., to ensure they maximise the financial return on those assets.
Cigarette Pricing Strategy: Cigarette companies joining to help the industry
All the while, whilst that’s happening, they’re using price optimisation to ensure those loyal smokers are going to smoke until they die. They’re going to smoke at price points that are well optimised and that are revenue-generating for businesses.
Then there’s that new business strategy that I mentioned as well, in developing countries. Where they’re going to keep pushing those new marketing strategies to acquire new customers.
To ensure the longevity of the cigarette industry. Because, in essence, that is critical to even the financing model that Aidan mentioned. The cigarette companies still need new customers to keep everything running.
The strategy in developing countries is actually very, very important to the cigarette companies globally. There’s even talk of the major cigarette companies joining together now.
To unite in the face of such a serious business model challenge. Rather than competing with each other now. I don’t know if that may or may not ever happen.
But there’s certainly talk that options are on emotion at the moment to ensure that the cigarette industry remains.
I think the news and 2021 are always confusing to look at. I always think of David Beckham. The famous soccer player who played for the Los Angeles Galaxy soccer team. And that club was sponsored by a marijuana company.
They were allowed to have that blazoned on their jersey, whereas putting a Marlboro or something like that on their shirt would have been completely unacceptable.
So things change. Trends do change.
We hear how much the government cares about our health and well-being to the extent that they can lock us in our own homes. So, we hear that a lot.
But it is strange that cigarettes where there is a lot of evidence. There is a huge amount of evidence that they are a factor in causing cancer.
But I don’t think there’s been a single developed country to actually ban the sale of them.
So there are a lot of ways people make money from cigarettes. But fundamentally, the people who make the most money are those in government.
I believe it was in the Czech Republic that looked at banning cigarettes. Their other economists told them they could not afford that.
Because the supposed excess healthcare costs for cancer patients were much smaller than the actual revenue brought in from the tax on the cigarettes themselves.
So it’s an interesting one. But the business of cigarettes fundamentally involves selling cigarettes with a lot of stuff right in the back of it. Such as tax collection and other things.
I believe that, in terms of tax collection, Australia has the highest tax collection on cigarettes.
And cigarettes in Australia are the world’s most expensive cigarettes. So you can imagine that the revenues coming to both the cigarette industry companies and the government here are quite substantial.
Although the tax is purported to be used to stop people from smoking in the segments where it should, it’s actually increasing demand.
What’s actually happening is that the black market for cigarettes is increasing. The hunt for new, young, and more naive smokers is on the increase.
Again, is government intervention required here? Or is it actually creating further problems that are more difficult to control?
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