Hi, good afternoon, everyone. Thank you for being here. I'm Gaurav Jain, Barclays Head of Global Tobacco and Cannabis and EU Small & Mid Cap. With me here is Kingsley Wheaton, BAT's Chief Strategy and Growth Officer. Let's first start with the presentation from Kingsley with opportunity in Q&A. Over to you, Kingsley.
Great. Thanks for the warm welcome, and good afternoon, everyone. It's a real, a real privilege and a pleasure for me to be here. Just by way of introduction, I've worked for BAT for 27 years all over the globe. I've been on the management team for 12 years in five different roles. And it's a real honor for me to be here to talk about this subject in particular, and that is how does an organization create a purposeful and profitable pathway to our vision, which is A Better Tomorrow? This is all about our New Category journey. It's a slightly different, hopefully refreshing take on how that journey is unfolding and will unfold.
And I'll take you through some of the key and salient points of what we're up to in terms of creating value for the long term and sustainable value at that. So, I'm just gonna quickly flick through two disclaimer slides. There they are. That will go up onto our website. And today's themes are the following. I suppose if I was to make some key messages for today, a multi-category portfolio, we believe, is essential, and I'm gonna have a look at that, and I'm gonna try and explain why we believe that is the case. But tobacco harm reduction, as a public health choice but also a strategic area of value, is a journey and not an event. It's something that's building over time, and I wanna have a look at that.
Also that there's all the right trail at the end of that, that new categories to us are value-enhancing, are value accretive, and I'm also gonna take a look at that. So those are the three big themes for today. Just to recap, our purpose at BAT is to build a better tomorrow. That is simply put about transitioning our portfolio from combustible cigarettes, the products that largely cause the harm to our portfolio, to offering a greater, greater choice of enjoyable and less risky products for our consumers. And indeed, that journey is well developed. If you went back not that many years ago, about, 0%, precisely 0% of our portfolio would have been in non-combustible new category products. They all have been in combustible tobacco.
At the half year, this year, we reported that nearly 17%, 16.6%, one-sixth of our business now today is in non-combustible products, creating a much more sustainable portfolio into the future. And in doing that, our ambition is to create value for multiple stakeholders. For our consumers, who will have greater choices to enjoy tobacco and nicotine, without the risks that, or the harm that combustion causes. For our investors, whether that be our equity investors or our debt investors as well. For our employees, there are 55,000 people at BAT who I think also anchor after a sustainable value-creating future for BAT. And finally, for society, as we seek to reduce the harm that smoking causes around the world. And by doing this, we can create value for those four big stakeholder groups and actually many others besides.
And the other point I wanted to make is, it's still fairly early days. There are about 1.1 billion smokers worldwide. That's per the WHO estimates, and there are 100 million users of new category products worldwide. Probably the first new category product users came onto the scene somewhere around 15 years ago. So in that time, 100 million, you can see there's an awful long way to grow, an awful long way to go and grow in terms of creating value as we transition more and more smokers into these alternatives if they choose not to quit. And increasingly, this is becoming a global phenomenon. I suppose you could take what's on this slide in two ways. Of our top 50 markets around the world, 60% of them, around two-thirds, are open to all of our new category products.
That still means, of course, that 40% of them are not. This is a dynamic picture. This has evolved over time, and I think more and more markets are adapting to the new reality of new categories as that tobacco harm reduction journey is better understood. Nevertheless, around 30% or one-third of countries in the world restrict one or more of the new category opportunities, and there are many very key global markets cited here, Brazil, Mexico, Turkey. I could add to that, Australia as well, where they are inaccessible to new category alternatives. So we've got work to do in terms of shaping a progressive environment in which we operate, working with stakeholders, governments, regulators, and policymakers to shape that environment where our portfolio will subsequently land and be presented to the consumer.
And finally, if you look at that market and footprint, I think it's very fair to say that markets and consumers are simply not homogeneous. There are fundamental drivers. This comes from our key consumer insight work. Six key drivers of why consumers adopt new category products if they choose not to smoke and make that switch, switch to better. And then there's a case for occasions and consumptions and moods and moments, and consumers are different around the world in that regard. And then regulation and market access, which varies from country to country to country. So if you layer those three dynamics on top of each other, it becomes fairly obvious fairly quickly that no single solution is capable of meeting all consumer preferences.
And just like you would find in perhaps the alcoholic beverages industry, where beer and wine and spirits, and mixers and so on, satisfy the consumer needs that are derived from alcohol, so too, that is true in our industry in terms of requiring, a plethora of category solutions to meet all the consumer needs, market needs, and consumption needs. So we're investing, investing heavily now in building that multi-category future in order that we can deliver sustainable, high-quality growth well into the future for BAT. BAT is 126 years old, this year.
It's a tremendous story of resilience, of success, of value creation, and I see no real reason why it wouldn't get to the grand old age of 252 years old, being thriving and flourishing, probably with it selling cigarettes being a dim and distant memory. So let's have a look at some of the beliefs. Some of you may know a lot about this area, some of you may know a little bit, some of you may know enough to challenge some of our thinking, and you may have heard some of these things before. Let me take you through these 10 beliefs. First of all, a belief that there is a one-size-fits-all solution to tobacco harm reduction. Secondly, that tobacco heating products, the heated tobacco products, attract the most consumers.
Thirdly, that tobacco heating is much better, is much, more successful in switching consumers out of smoking, which, after all, is our ultimate aim than vaping. You may also have heard that modern oral is just a slightly quirky Scandinavian solution and has no global footprint in the future. Come on to another way, that nicotine is a substantial cause of disease. You might find it strange, that I put that up there. Per recent data in the U.S., 80% of health practitioners in the U.S. think nicotine is a cause of illness. 50% of British general practitioners think nicotine is the problem. So there may be an understanding of that within the industry, but there's certainly not an understanding of that of society at large.
Another thing that's often thrown at us, that new categories are simply a conspiratorial plot by us to create value, to have people move back into smoking, what's called the gateway. And I wanna talk about that. The poly users, with this stage of poly usage on the journey as people switch out smoking, consumers tend to smoke just as much. That somehow, new categories are equally used and adopted by different age cohorts. I think we have far more precision in our insights and therefore are far more able to be predictive about the industry's future. And if we kind of got through those eight, then finally, often when I'm sitting down, people say, "Yeah, yeah, it's all great, but new categories are less profitable, aren't they?
And actually, you're in volumetric decline in combustibles, and therefore, industry decline must just be eroding." I'll address beliefs 9 and 10 at the end. Looking at the first one, one size fits all. I think, there was a reasonable job done just earlier on one of the pages to explain why when consumers are not homogeneous, that a multi-category solution is needed. That might be conceptual, that might be a theory. Here's some data and some facts. Let's have a look at the data and the facts. If you correlate the penetration of tobacco heating usage in different markets around the world and vapor usage, they tend to correlate inversely to the weighted average tar of the marketplace. Let me put that into layman's language.
As cigarette deliveries get less and less strong as you go around the world, tobacco heating stands a greater chance of working. A prime example of that would be Japan. Sales-weighted average tar is a measure of the declarations on the product, and as you head into the higher tar markets, notably Canada and the United States, you have a much stronger penetration of vapor. You might even argue that USA and Japan are outliers because of the presence, largely of only one predominant category. Of course, there are many more data points here, and for the analyst amongst you, the R squared is pretty strong on THP at 0.6 and is 0.4 R squared on the vapor numbers. So evidence of a correlation that there's a relationship between weighted average tar and preferred product usage.
Belief two is that THP is the winning format in attracting most of the consumers. This is consumer data over 5 years. You'll see that of those 100 million smokers I mentioned around the world, 62 million of them, or two-thirds of them are vapor users. Some of you may argue, heard this often in the past, has that not been inspired more recently by modern disposables? Well, that's largely a 2022 phenomenon. The dip you see in 2020 is more likely a little COVID disadvantage than a change of trend. So you see the trend has been fairly consistent. Only 17% of vapor users using modern oral are using them on a solo basis. 70% are using them on a repertoire basis with rechargeable vaping products. Of course, we don't count those consumers twice.
So nearly two-thirds of new category consumers around the world are in vapor. And then if we have a look at switching, so they're all smoking vapor, but vapor is not as effective in the tobacco harm reduction journey. Well, here's data from 5 big markets beyond Japan. This data is often presented through the eyes of Japan, which obviously is a low sales-weighted average tar market. Now, this chart across Canada, and across Germany, and across the United Kingdom, and Italy, and Poland, you see that consistently, vapor acts to switch consumers out of cigarettes as well, or maybe slightly better than tobacco heating products. So vaping also capable of switching consumers. And in four, that modern oral is this quirky Scandinavian phenomenon.
Well, if you have a look at the facts, the data, actually, even in 2023, we estimate that 75% of modern oral white nicotine pouch revenue around the world will come from non-Scandinavian markets, with the rest of the world now approximating to roughly what Scandinavia is worth, with about half the market in the United States. We actually think and are very excited about modern oral going forward. Yes, it's a unique format. It has certain consumer disadvantages. It has many, many consumer advantages. The user journey is harder to get consumers through to adoption, but at the bottom end of the consumer funnel, when you get into regular usage, loyalty, service usage, and advocacy, modern oral performs better than any of the other categories.
So if we start to build bridgeheads, we're starting to build bridgeheads with Modern Oral now, in what I would argue is some surprising places. In Pakistan, in Kenya. Actually, the business in Poland is going very, very well despite tobacco heating and vapor being very, very prevalent. So we're starting to see more and more success in Modern Oral, and I think that will continue, and who knows, possibly even as part of our beyond nicotine journey, as we think about actives beyond nicotine alone. So if these are true, if the factual contextualization of the industry of one, two, three, and four are correct, then it would imply that a multi-category portfolio is essential to deliver both our purpose and industry transition. Let me take these next four head-on as a swathe, largely about tobacco harm reduction.
Well, here we have none other than Scott Gottlieb saying, "It's not the nicotine that's the problem." We have the Royal College of Physicians that says, "Nicotine is not the problem." And again, I think for those that are initiated in the industry, that's a well-understood fact too less well understood. Another reason why we need to work much harder as an organization and join forces externally with regulators and policymakers to try and create a catalyst for a more progressive environment where tobacco harm reduction is better understood and the role of nicotine is better understood. Number six, the belief that somehow new categories are a gateway to smoking, that young adults enter into vaping, perhaps, or tobacco heating and somehow end up becoming cigarette smokers as a result.
And here you can see data across multiple markets that basically shows there is no evidence of a gateway effect out of products back into smoking combustible products from new categories. These rates are substantially lower than the entrance rates in these markets into smoking alone. So I think what's often we're accused of, that we're creating this gateway, but the data release doesn't seem to be true, and there was no suggestion globally, as you see, as the years go on, that this is increasing. Oh, well, I missed one. 6 seems to have jumped to 8. Anyway, maybe it's a numbering thing. Also, that new categories are used equally across different age cohorts. In fact, what you see is something quite different. The first column is adult users under 30.
The next column is 30-44-year-olds or the row, and the next one is adult users over 45. And you'll see that new categories penetration, whether that be smokeless usage or dual usage, varies inversely with the age cohorts of consumers. And you might say, "Well, so what? What does that mean?" What it means is if you roll this forward in terms of cohort analysis, if you're predictive about the future, you're gonna have generations of consumers who are increasingly persuaded by new category products and are gonna smoke less and less and less. And as we come on to the value side of things, of course, that, that matters to demonstrate that the usage of these products is valuable and therefore sustainable. And slide seven are the wrong way around. But anyway, there we go, 8 to 7.
The belief that somehow poly usage, as we think about this journey of tobacco harm reduction, tend to smoke just as much. I think, sometimes it's called the off-ramp. The off-ramp from smoking to some alternatives. This is not a binary choice between smoking and smokeless usage. Of course, we all wish that we would get consumers to smokeless usage of new category products as quick as we can, if they choose not to smoke. However, in that journey, there will be poly usage. But here you see a package of markets, I think it's 12 markets, where if consumers are using cigarettes and THP, they smoke 8% less than they would otherwise smoke on a daily basis. If they're using with modern oral, 17% less, and if they use it in partnership with vape, 19% less.
So we do see a reduction in the amount of cigarettes being consumed on a worldwide basis as a result of poly usage, which is an inevitable stage of the transition of the company and of the industry. So I think thinking about those four points, tobacco harm reduction is a bona fide corporate for us and also societal goal in terms of coming up with public health policy, which deals with the harm that smoking causes. And finally, on to the commercial side of things. Of course, they're less profitable. I hear a lot, and industry value is simply being eroded as volumes decline. To explain this chart, new categories are already positive at a gross margin level in almost all categories. What you have here on the verticals is tobacco heating, modern oral, vapor rechargeable, vapor disposables.
On the left-hand side, the countries, and it depicts the relative amount of margin versus somebody who smokes on an annualized basis. So in France, for example, we would take the average, the average daily consumption, the ADC, of something like Lucky Strike, calculate that, what's that worth in terms of gross profit for us, and we would set that aside, somebody who's using vapor on a same ADC rates. And what you see is almost everywhere in the world, with a couple of exceptions, that already new categories on an absolute margin per consumer user per year basis is as, if not more profitable than a cigarette consumer. And this is dynamic. If I put this chart up when I first started running next generation products in 2015, I suspect they would have all been yellow. So we're seeing a dynamic forces here.
So I think even the yellows over time, as we build scale, figure out better innovations with our innovation obsession, build better consumer satisfaction, is gonna deliver a better and better and stronger margin profile. And here that the demise of our industry is somehow forecast based on volumetric decline. You'll see that even though in the top 10, cigarette volumes have been falling by 6% over the last two years on a CAGR basis, the industry has been growing value by 3.4%. That's a function of, A, the pricing that we're able to deliver despite that volumetric decline on the combustible side, and the fact that all the value accretion is coming through new category products. So total nicotine revenue is growing year-on-year, with new categories driving that value accretion. So those are the 10 facts that I've taken you through.
I just want to sort of summarize and get on to perhaps Q&A in a short moment. So the multi-category portfolio is essential. Tobacco harm reduction for us is a journey, and new category products are value accretive. I just wanna do one more quick one. Often we hear that Japan is the sort of bellwether transformation of the industry. Well, actually, you know, a little closer to our home, a transition of the market has been happening for a long time, and that is Sweden. Sweden has successfully delivered a multi-decade tobacco harm reduction policy, which is the FCTC instrument.
Sweden will probably become the first country in the world that will hit smoke-free status at below 5%, all founded in a long tobacco history that goes back, many, many decades, and also a country that has the lowest lung cancer rates in the world. Don't just take my word for it. Let's have a look at this quick video on what Sweden has achieved in terms of tobacco harm reduction.
By far in all of Europe. So low that this year, in 2023, it is set to become, according to official criteria, smoke-free. It's a goal that the EU has asked its member states to achieve by 2040. Most are on track to miss this target, but Sweden will smash it by a staggering 17 years. The country's smoking rate just 15 years ago was more than 150% higher than it is today. The Swedes have shown us the way to be safer and healthier, just like they did when they not only invented the three-point seat belt, but donated it to every car manufacturer in the world for free. The seat belt has saved well over 1 million lives since the Volvo engineer came up with the idea in 1959.
Sweden's latest public health miracle could save 3.5 million lives in the next decade. We accept their latest gift to global public health. You see, the Swedes have now effectively wiped out cigarette smoking by developing a specific policy formula that makes alternatives more acceptable, more acceptable, and more affordable than cigarettes to consumers. The results speak for themselves. Swedes have long used education, tobacco control measures, and snus to keep smoking rates down. With the introduction of modern tobacco-free alternatives, vaping in 2015 and next-generation nicotine pouches, which followed in 2018, turbocharge the smoking decline. In the last decade, smoking rates in Sweden have fallen by an astonishing 55%. The rest of the EU smoking rates are on average five times higher than Sweden's, because they have a less supported policy approach to cigarette alternatives.
Compared to the rest of the European Union, Sweden has 44% fewer tobacco-related deaths. Cancer rate that is 41% more and 38% fewer deaths attributable to any cancer. If every other country in the EU followed Sweden's example, up to 3.5 million European early death would be prevented in just one decade. World-renowned public health experts agree.
I think we have the answer already. Tell the world about the Swedish experience and the mixture of pros and cons that we have had that have been helping people to leave cigarettes and get into something important to for the governments to tell-
... the consumers, that if you, if you need your daily nicotine, use this instead of the cigarette.
This is Sweden's gift to global public health, and why the message to the world when it comes to smoking is: Quit like Sweden. Smoke-free Sweden 2023.
So a remarkable story in Sweden, which brings together many of today's themes. I think some of the facts that we've tried to outline, how we create value and how we create high-quality, sustainable growth. Very quickly, already 12 of our key markets around the world, we see double-digit, some cases, high double-digit revenue contribution of new categories to our business. Obviously, with Sweden being the highest, nearly three-quarters. And in 23 investment markets around the world, we have more than 30% of our revenues today, already in new category products, as high as 70%, nearly three-quarters in other markets. And as I said at the beginning, we've only just begun. 100 million users of these products, 1.1 billion smokers, and that's how we're going to create a purposeful and profitable pathway to our better tomorrow. Thank you very much.
Thank you so much, Kingsley. Very interesting presentation than what I was expecting, so thank you for that. So, you know, we have very conscious of time. We have 9 minutes. We will also have a breakout after this. So I will ask a few questions which are on top of investors' minds.
Sure.
Number one is, you know, there have been management changes this year. We had a sudden CEO departure, and a new exec board has come in. We still have a CFO announcement to be made. So could you just help us understand where are we in the transition, and when can we expect-
Sure.
a new CFO announcement?
Yeah, of course, and I'll try and be quick, mindful of time. Of course, it all starts with a strategy. Do we have the right strategy? And I think there's a very strong feeling that we do. And actually, in many ways, what I outlined there was a strategy. What we have to be able to do is execute that strategy better. And it's fair to say, I think the examples are well known, there's been some areas where we could have executed better. We need to stabilize it and create a more sustainable United States business. We need to get better in terms of tobacco harm, a tobacco heated products pipeline, and we need to focus on fewer things and doing those better.
I think the board looked at all of that in terms of what was needed, concluded that Tadeu was exactly the right person to take us forward, and I'm very honored to be representing here today. I, I've worked with Tadeu for a very long time, for over two decades, and I think he is the right person to bring that, that thoroughness, and that calmness into the business in order that allows us to execute strategy. From a CFO point of view, that was your other question, obviously, there is an extensive external search ongoing at the moment. Looking at proven CFOs in a probably in a PLC environment with a track record of transformation, of some disruption, coming in with a fresh pair of eyes.
That's not to say that we don't have a great internal bench of possible CFO candidates as well, and we'll make an announcement to the market as soon as that process has been completed.
Sure. Thank you. Now, you highlighted, you know, the challenges that have happened in the U.S. business. Now, as we look ahead over the next, let's say, three years-
Yeah.
U.S. cigarette industry volume is down 8.5% on what was an easy comp, in which you lost share.
Yeah.
Then, U.S. e-cigarette, clearly, you did pretty well this year in increasing the profitability, but now we are seeing disposable e-cigarettes come in. Altria has acquired NJOY.
Yeah.
So, e-cigarettes, probably volumes go down here, and you probably can't price up now.
No.
And then we will have next year, PMI enter the market with IQOS, but I like that slide. There was correlation between tar and penetration rates. So is it... The way we are thinking about that U.S. business is that now, EBIT will be flat, while historically it used to grow high single digits. So how should we think about your overall U.S. business?
Yeah, I think the most important thing is that, is that we create a business that's capable of delivering sustainable value accretion over the medium to long term. And that means that there's a few things that we've got to correct or fix. I mean, some of that is now under David Waterfield's watch, who's gone in as CEO of the United States, somebody who I know tremendously well. Previously led our Western European business, and if you saw the number of Western European markets that were featured in terms of the transition, he would tell you that he's done a tremendous job there. So in stabilizing the business, we've had a good first half, lapping from a share point of view, some tougher comps in the first half of 2022.
We've seen some early signs of premium stabilization. By definition, if you see premium stabilization, that would be underpinned by some of the Reynolds portfolio, and Newport and NAS especially have performed well. I think vape is going tremendously. By the way, we grew 20% for a revenue basis in the first half. And I think it's really... Again, it's about an execution challenge in the U.S., in terms of using our state archetypes model, in terms of using RGM, getting more tailored and better in terms of precise, in terms of cross elasticity of demand between our products and the other ones that are available to consumers. And I think as the market, you know, we've been through a particularly bumpy period in terms of the market in 2022, 2023.
I think our medium long-term view is that the market will settle down to decline rates that become more secular than those that we're more used to. And I think we're gonna be able to deliver combustible value from the U.S. So I think we're going to be able to deliver transformation value, and I think we're going to deliver from new categories. So medium to long term, I feel good about it, but I think we all recognize the next two or three years, there's a lot of work to be done, and it will take some time to get the U.S.A. sailing again in clearer waters.
Okay, sure. Still sticking with the US, you know, Vuse Alto PMTA, it's almost, I think, three years now-
Yeah.
that you filed for it.
Sure.
You're still awaiting it. What, what is your expectation? And if you don't get the PMTA for tobacco, then what happens to your e-cigarette business?
Well, we'll probably cross the second bridge when we come to it, Gaurav, if you don't mind. We're hopeful for a decision by end of the year. We think we feel in a good position. The same fundamental science approach, submission, documentation that was used for Ciro and, and Vibe and, and one other, I can't remember off the top of my head, three of them that have been approved, is the one that underpins Vuse Alto. The FDA come out with quarterly update, slots. They're talking about having cleared, I think it's six and six applications by the end of the year. So we're very, very hopeful that there'll be from the FDA in that, you know, in that timeframe.
Sure. Now, one key question around BAT is of share repurchases.
Yeah.
You had a bigger-than-expected share repurchase announcement in FY 2021.
Yes.
GBP 2 billion. This year, it went below what investors were expecting, you skipped the share repurchase. And now as we approach your annual results in FY 2024, that question is going to-
Yeah
heat up a lot. And your leverage is now closer to 2.5x, which is your stated range, 2x-3x. So how should investors be thinking about?
Yes
Share repurchases in FY 2024?
Thank you. I'm very mindful of answering that question, as the strategy and growth guy with the interim finance director here, but I'll give it a go. Of course, the other thing that's fair to say in that period from 2022 to 2023, I mean, the world's changed a bit as well, and there's been a you know pretty choppy external environment, you know, marked by rising inflation, the Ukraine-Russia war, rising interest rates, and the ensuing implication on net finance costs. And I think it is worth saying all of that because it does mean that in terms of capital allocation, we've decided to prioritize the paying down of debt alongside the dividend. We're committed to a 65% dividend payout ratio.
We've had an increased dividend, I think, every year for the last quarter century, 25 years. Something that I know a lot of our investors do care a lot about. And in this environment, we've decided to focus on paying down debt until we bring debt back into, you know, close... much closer to the middle of the corridor of our 2-3 times EBITDA. So that's what we're doing. That's the choice of the board, supported by the management team, and we'll keep reviewing that on a, on an ongoing basis, as capital allocation is, you know, inevitably, you know, somewhat dynamic.
Sure. In terms of, you know, a couple of regulatory topics, one is the EU flavor ban on heated tobacco, which will come on twenty-third of October.
That's right. Yeah.
70% of your portfolio is in flavors, if I'm correct.
Mm-hmm.
So is that a big issue? How are you expecting to handle it, especially experience in California was not as good as I think we would have expected, so how should we think about that?
Yeah. I mean, we're very... We were very disappointed with the way these moved forward in terms of flavors on tobacco heating products. Our position is it's using, or it's co-opting a part of TPD2, which wasn't designed for tobacco heating products, but nevertheless, we are where we are. It will take some time from the twenty-third of October for markets to fully transpose that. So we suspect that from the twenty-third of October, you probably have a 6, 9, 12-month bleed-in period, as those products will be taken out on a market-by-market basis. And we think it's just wrong for tobacco harm reduction, because flavors, adult-directed flavors, responsibly marketed, are a way of giving consumer satisfaction.
Nevertheless, although you're right that we had a predominance and somewhere around two-thirds of our products are flavor-based, if you look at the absolute volume that's available, then our competitor has a much bigger amount of quantum of volume. So we think that it will be an opportunity for quite a large amount of consumer reevaluation, reappraisal, therefore, consumer switching. And we're hopeful with the plans that we have, which will obviously be going into the market soon, to deal with that flavor situation, that we could do quite well out of that. So we're looking forward to it. We don't think it's gonna be hugely material, either way, to how BAT performs.
Sure. We are out of time, so we'll go to the breakout room, and we will continue our Q&A there.
Thank you, Gaurav.
Thank you so much, Kingsley.
Thank you, Gaurav. Thank you very much.
Thank you, for being here.
Thank you. Thank you.