‘It's Nicotine, Jim, But Not as We Know It'

At TwentyFour we regard ‘momentum’ as one of the most underestimated factors in promoting progress on environmental, social and governance (ESG) issues. Our view is capital markets should support rather than shun a company if it has a credible plan to improve in a key area or areas.

We expanded on this rationale in a recent whitepaper using the example of UK energy supplier SSE, which took its usage of coal as a production input from 59% in 2013 to 5% in 2018. The company was aiming for zero by 2025 and is on track to achieve it next year, a result that would have been made more difficult had capital markets shunned SSE in 2013.

In light of our belief in the significance of momentum, it has been interesting to turn our ESG analysis to the tobacco sector, where firms are gradually shifting their business away from combustible tobacco and towards alternatives like e-cigarettes, tobacco heating products (THP) and modern oral products.

After all, the case is being made by companies such as British American Tobacco (BAT), which on its website states: “In 2012, we articulated a clear vision that places adult consumers at the centre of our strategy. Our Transforming Tobacco ambition builds on this vision as we grow our business based on offering our consumers a broad range of outstanding products, informed consumer choice and a drive towards a reduced-risk portfolio.”

In the UK and Europe, the health authorities have generally looked on these alternatives as a way to help people reduce combustible smoking, rather than a gateway to nicotine consumption, an approach termed ‘harm reduction’. There do seem to be considerable differences between the US and Europe, both in the regulation of nicotine content and the ability of tobacco firms to market to youths.  A YouGov survey published in June 2019 by anti-smoking group Action on Smoking and Health found that 1.6% of 11- to 18-year-olds in the UK said they used e-cigarettes more than once a week, substantially lower than the US.

This piqued our interest as this sounds like a positive case for ESG momentum. Or is it?

In September 2018 we met with BAT at an investor conference, and spent time questioning management on the different aspects of their product range. We were concerned around two key areas; nicotine addiction as a continued issue even in new products, and the sharp uptake of e-cigarettes by youths in the US (usage of e-cigarettes grew 78% between 2017 and 2018 among students aged 12 to 17, according to the US Food and Drug Administration).

We did not feel that the message expounded by BAT at the meeting – broadly that the addictive nature of nicotine was not a big issue for the FDA, nor a factor in youth uptake – could be correct. We felt the company was in denial. President Trump, along with Health and Human Services Secretary Alex Azar, has just announced an initiative to outlaw the sale of flavoured e-cigarettes in the US. That this requires legislation is an indication of where the industry’s ethics remain, in our view. We worry about the probability of long run research into these new products in the next several years, potentially bringing to light new health risks arising from the chemicals used and leading the sector into further controversies and costs.

In some ‘sustainable’ ESG models the tobacco sector would be excluded from the investment universe altogether, but a fund manager using an integrated ESG model would ultimately need to decide if a sector or issuer was an attractive investment. Even accepting the current ‘European’ stance that these new products are a potential improvement on combustible tobacco, for us there remain too many unknowns, and thus it could be hard for investors to make the case for positive ESG momentum here.