How will the eu's revised excise taxes on cigarettes affect consumption? — trefis

The European Union (EU) contributes 28% to Philip Morris International s (NYSE PM) consolidated net revenues and is the most profitable division of the company with adjusted EBIDTA margins of over 50%. The division contributes over 25% to the company s total value by our estimates.

However, Philip Morris EU operations have been under pressure over the past few years due to the growing presence of illegally traded cigarettes in the region amid weak macroeconomic conditions. Not only this, taxes on cigarettes in the region at around 70% of the weighted average selling price are among the highest in the world. Here we take a look at the implications of a revision in these taxes, which is scheduled to be implemented next year on the consumption of cigarettes in the region. 1

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Tax Floor Revision

According to a law that defines excise taxes on tobacco products in the EU, member states have to apply a specific «per unit» excise duty on cigarettes and a proportional excise duty that is calculated on the basis of the weighted average retail selling price (WAP). Under the current taxation scheme, the overall minimum excise duty stands at 57% of WAP. It also entails an absolute minimum excise tax of EUR 64 per 1,000 cigarettes, irrespective of the retail selling price. However, EU countries that levy an excise duty of at least EUR 101 per 1,000 cigarettes on the basis of WAP need not comply with the 57% requirement. Additionally a value added tax (VAT) of around 13% increases the total tax on cigarettes to more than 70% of the average retail price. 2

According to a planned revision of the current taxation scheme, the overall excise duty on cigarettes shall represent at least 60% of WAP from January 1, 2014. And the absolute minimum excise tax per 1,000 cigarettes shall not be less than EUR 90 per 1,000 cigarettes irrespective of the retail selling price. However, member states that levy an excise duty of at least EUR 115 per 1,000 cigarettes on the basis of WAP need not comply with the 60% requirement. A few countries including Bulgaria, Estonia, Greece, Latvia, Lithuania, Hungary, Poland and Romania will be allowed a transitional period until 31 December, 2017, in order to reach the required amount of excise duties. 2

Potential Impact

According to the latest available excise tax numbers, the average excise tax across all the member states is around EUR 128 per 1,000 cigarettes or approximately 63% of WAP. This is more than 25% higher than the excise tax floor of EUR 101 per 1,000 cigarettes suggested by the directive. 1 The fact that actual excise taxes are much higher than the minimum required levels is not surprising, as the taxation of tobacco products is an important source of revenue for the member states. Total tax collected by the member states from the tobacco sector (including VAT) was more than EUR 100 billion in 2012. More than 80% of this came from cigarettes. 3

Therefore, assuming that the revised minimum excise tax levels would also be exceeded by similar proportion, we estimate the average selling price of cigarettes in the EU to increase by 10%. Based on the results of a study conducted to estimate the sensitivity of cigarette consumption to price increases in Europe, we estimate the scheduled revision in excise taxes to result in around 5 7% decline in the demand for cigarettes in the region. 4

We expect the isolated impact of this measure on the profits of Big Tobacco companies to be minimal as a revision in excise taxes and the related decline in cigarette consumption would be mostly offset by price increases in the long run. However, there could be other implications such as higher consumption of other tobacco products, which are taxed significantly less compared to cigarettes. Over the last decade, the consumption of roll your own tobacco in the EU has increased more than 40% even as the consumption of cigarettes has declined by 25%. 5 Furthermore, it could also lead to an increase in illegal cigarettes trading, which is already a huge cause of concern for both the companies as well as the governments. (See Philip Morris Potential Downside From The EU s Illegal Cigarette Trade)

We currently have $87 price estimate for Philip Morris International, which is almost in line with the current market price.

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Notes

  1. Excise Duty Tables, &#8617 &#8617
  2. Excise duties, &#8617 &#8617
  3. The New Tobacco Products Directive Potential Economic Impact, &#8617
  4. Price and cigarette consumption in Europe, &#8617
  5. Revision of Tobacco Products Directive, &#8617

Eu minimum tax legislation for cigarettes has had no effect on smoking prevalence, according to new spanish study — sciencedaily

The World Health Organization’s Framework Convention on Tobacco Control exhorts Parties to implement tax policies aimed at reducing tobacco consumption. As a signatory, the European Union passed legislation i requiring Member States to apply cigarette taxes to ensure that, as of January 1st 2014, at least 90 &#8364 per 1000 units are excised, regardless of brand or category. Many Member States anticipated this move, and introduced taxation legislation.

Spain’s minimum tax on manufactured cigarettes legislation has been operating since February 2006. However, the Spanish territory of the Canary Islands is subject to a special tax measures aimed at stimulating their distant offshore economy, and therefore tobacco products in the Canary Islands were not subject to the type of excise duties that were implemented elsewhere in Spain (mainland and the Balearics). This study was therefore able to compare cigarette prices and smoking prevalence in both areas.

Бngel Lуpez Nicolбs, Lourdes Badillo Amador, and M. Belйn Cobacho Tornel found that prior to the legislation coming into effect in 2006, the annual increase of cigarette prices in both the Canary Islands and the rest of Spain were quite similar, at an average of 5%. However, after 2006, the difference is stark prices rose by 44% before taking inflation (8.3%) into account in Spain in the years 2006 2010, but by only 10% before inflation (8.5%) in the Canary Islands during the same period.

The authors then examined both immediate and longer term effects on smoking prevalence after the introduction of the legislation and found that the hikes in cigarette prices do not seem to have affected smoking prevalence amongst males, either shortly after the reform or three years hence. In the case of women, the study found no significant effects in the short term, with estimates ranging between 3.36% and 4.3% in the long term.

Lead author Бngel Lуpez Nicolбs, of the Universidad Politйcnica de Cartagena, comments, «the lack of a robust effect on prevalence more than three years hence is surprising given the clear effect on cigarette prices. Indeed, finding a statistically significant effect on prevalence only for females and, even then, with only one of our estimation methods, runs against the well established notion that smoking prevalence responds to price rises.»

The authors looked into the Spanish tobacco market to find out why this might be so. They found that the price of fine cut tobacco for use in hand rolled cigarettes fell in real terms between 2005 and 2008 and has remained well below that of manufactured cigarettes, with the share of fine cut tobacco over total tobacco sales more than trebling (from 1.6% to 5.1% of sales). This suggests that smokers may have taken up hand rolled cigarettes since the introduction of the minimum tax legislation, which until 2009 only applied to manufactured cigarettes.

«In this sense,» says Lуpez Nicolбs, «the new tax regime has performed poorly in regard of the public health objective of reducing tobacco consumption. It seems that a necessary condition to achieve such a reduction would be to plug the tax loophole that allows fine cut tobacco into the market at a substantive discount compared to manufactured cigarettes.

«As for the EU wide implications, there is a relevant policy message implied by our results. The countries that have introduced a minimum tax on manufactured cigarettes might achieve little in terms of reductions in smoking prevalence if they allow a tax gap between fine cut tobacco and manufactured cigarettes. Member States should be proactive in this regard if they wish to successfully implement the WHO Framework Convention guidelines on taxation.»

i Council Directive CD 2011/64/EU