Japan Tobacco Extends Scope With Acquisition of World’s Largest Shisha Manufacturer

Japan Tobacco Inc.’s freshly announced takeover of the Egyptian waterpipe tobacco company, Nakhla is a fascinating development which builds on two recent acquisitions by the company. At a stroke, it provides JT with an additional 40,000 tonnes of smoking tobacco sales volumes annually, expanding the company’s product portfolio and its commitment to a total tobacco structure indicated by its takeover of the RYO/MYO manufacturer Gryson NV in early 2012.

Nakhlaresized

The deal also gives the company an operational infrastructure with which to access the turbulent but sizable Egyptian cigarette market and further strengthens its position in the potential-laden Middle East and Africa region following on from the 2011 purchase of Haggar Cigarette & Tobacco Factory, a manufacturer which dominates the cigarette market in the Republics of Sudan and South Sudan. However, all of this activity also simply serves to once more beg the question of a putative deal for major tobacco multinational, Imperial Tobacco plc.

Despite upheaval and restrictions, shisha surging in Middle East

Even in its own terms the Nakhla deal is one loaded with exquisite rationale for JT. Nakhla is the world’s leading pipe tobacco company with over 30% of the market by volume. Given the sheer scale of these volumes the deal will make JT the world’s leading smoking tobacco company overall, leapfrogging Philip Morris International, British American Tobacco, Eastern Company SAE and Imperial, and giving it a share of over 21%. It must be noted however that the global RYO market is worth more than four times the global pipe tobacco market and Imperial remain dominant (with a 29% world volume share) in that, much higher value, category.

Further, the shisha tobacco market in the Middle East and Africa is flourishing, with a projected CAGR volume growth of 6% up to 2016 and CAGR growth of 5% and 7% respectively in its two largest markets, Nakhla’s domestic base, Egypt and Saudi Arabia. Given the social nature and time profile of shisha smoking, restrictions, particularly public smoking bans could curb volume expansion but such a ban is not expected in Egypt until 2015 at the earliest while high CAGR growth rates are expected in Saudi Arabia, despite the existence of controlled zones for shisha consumption.

Cleopatra rules but possibility persists

The Egyptian cigarette market declined by 15% in volume terms in 2011 to 68 billion units due to the increase in illicit trade and market turmoil engendered by the country’s part in the unfolding of the Arab Spring. Further volume losses have been seen in 2012 however, it remains the 16th largest global cigarette market by volume and will stabilise up to 2016. The market is currently dominated by Eastern Company SAE’s Cleopatra brand with 70% of volumes but increased competition seems inevitable and Japan Tobacco clearly feel that as a multinational company, owning a large local tobacco concern, albeit one not directly involved in cigarette production gives them a huge logistical and cultural advantage.

Nakhla deal delivers valuable local base

Indeed, it is a logic that extends beyond the borders of Egypt. The Middle East and Africa region as a whole is projected to see a CAGR 2% growth in cigarette volumes up to 2016 and CAGR value growth of 6% in constant US dollar terms. The company currently operates in up to 20 African countries including Algeria and Morocco to Nigeria, Tanzania and South Africa. It has factories in Tanzania and South Africa and 2011’s Haggar acquisition provided it with a local base in Sudan and South Sudan. It is a region with singularities, including high illicit trade and an often unstructured smoking culture (for example, single stick purchasing remains common in many areas) so the augmentation of its local footprint and the attendant bolstering of its operational capability are advantageous corollaries of the Nakhla purchase.

Imperial ambitions?

These ‘local’ acquisitions are all positive and significant developments for Japan Tobacco but in the wider scheme, the putative acquisition of Imperial Tobacco plc either alone or in concert with BAT remains the key imponderable. It is one which has the potential to turn the company into the second largest international cigarette company and the dominant force in total tobacco but issues over competition and Japan Tobacco’s government ownership and internal structure threaten to impede progress. Nakhla will very much do for now, but fascinating as that deal is, for JT, Imperial remains the crux of one of the greatest strategic conundrums of its – and the tobacco industry’s – day.