British American Tobacco announced a $31.5 billion impairment on the value of some of its U.S. cigarette brands. The value of the affected brands, including Newport, Camel, Pall Mall and Natural American Spirit, on BAT's balance sheet will be adjusted to a limited life of 30 years, resulting in a non-cash impairment charge. This marks the first time that a major global tobacco company has written off part of the value of its traditional cigarette business in a key market such as the United States.
BAT's writedown highlights the challenges traditional tobacco companies face in changing industry dynamics. BAT attributed the move to economic challenges in the United States, consumers fed up with inflation turning to cheaper brands and the rise of illegal disposable e-cigarettes. In addition, a strengthening regulatory environment and increased awareness of health risks have led to a decline in cigarette sales in some markets. These are expected to continue to decline, with BAT adding that global industry sales will fall by around 3% in 2023.
cope with changes
The decision to write down part of the brand value is a bold step for BAT because, while there will be short-term pain, the reality is that the cigarette market is shrinking and pretending otherwise would be irresponsible behavior by management.
Failure to embrace change has sealed the fate of several top brands in the past. Blockbuster, a giant in the video rental industry with thousands of stores around the world, failed to recognize the shift to online streaming and mail-order DVD services. In 2010, Blockbuster filed for bankruptcy because it was unable to compete with companies like Netflix. Kodak, which resisted the switch to digital cameras, suffered the consequences and filed for bankruptcy in 2012. Nokia was once a dominant force in the mobile phone industry, but has struggled to adapt to the rise of smartphones and the proliferation of app ecosystems. Nokia's market share declined rapidly and it eventually sold its mobile phone business to Microsoft in 2014. These are examples to be wary of.
BAT's move is crucial as the company consciously avoids potential pitfalls and demonstrates its commitment to surviving and growing in new categories. The company has invested heavily in alternative products, focusing on e-cigarettes and oral nicotine, and hopes to generate 50% of its revenue from these products by 2035.
A study on the correlation between leadership tenure and barriers
Tadeu Marroco will become CEO in May 2023. Prior to serving as BAT's CFO, Marroco played a crucial role in guiding the company through its transformation phase, highlighting the growth of emerging categories such as e-cigarettes and e-cigarettes.
The correlation between tenure length and significant impairment is noteworthy. When assessing the biggest losses of 2019, a common thread emerges: new leadership, as shown in the chart accompanying this article. Against this backdrop, BAT's decision is not an isolated incident but a strategic response to industry challenges, reflecting a broader pattern observed among companies undergoing leadership changes.
Among the companies with the largest goodwill impairments in 2019, all public companies except Procter and Gamble and CenturyLink had either a new CEO, a new chief financial officer (CFO), or both. It’s both. Most of these companies' former leaders decided not to take impairment charges in 2018. Century Link did take an impairment in 2018, when it also had a new CEO and CFO. Therefore, new leadership appears to have a significant impact on a company's likelihood of damaging its goodwill. Across the entire sample, we found that 30% of damage occurred during a new CEO or CFO's first year on the job.
For larger impairments, impairments accounted for at least half of the goodwill's carrying value, with 41% occurring in the first year of new leadership. At best, this analysis suggests that goodwill impairment may be affected by the differing personal opinions of managers and their views on prospects and risks. At worst, this analysis suggests there may be an ulterior motive in the decision to damage goodwill. Taking impairments early in your tenure as CEO or CFO can help you set a precedent that your predecessor was negligent or overly optimistic on acquisitions, or could cause the stock price to first fall and then rise during the remainder of your tenure. .
Given these circumstances, Marrocco's impairment, just nine months into his tenure, is consistent with a broader trend observed among companies undergoing leadership changes. In addition to the leadership transition, BAT recently appointed a new chief financial officer, who is scheduled to take up the role in April 2024.
Looking to the future
British American Tobacco's impairment announcement should be seen as a positive and necessary step towards a resilient future for the company. Stakeholders should not focus solely on the financial impact but recognize the strategic vision behind this decision.
However, the industry has been grappling with challenges. Plain packaging laws have evolved significantly and become more comprehensive in some countries. These regulations now extend their coverage beyond traditional tobacco products to include heated tobacco, tobacco accessories and other nicotine-containing items. In addition to recent developments, this month the World Health Organization has shifted its focus to e-cigarettes, urging governments to adopt similar control measures as for tobacco to address the emerging problem.
As a result, BAT and other tobacco companies must proactively adapt their strategies to leverage innovation and regulatory compliance, navigate the changing landscape and ensure long-term success in an industry with increasing health-related safeguards and regulatory hurdles.