Analysis: Downturn bites this time for beer, tobacco

BRUSSELS Tue Nov 16, 2010 3:56am EST

BRUSSELS (Reuters) - In past recessions smokers and beer drinkers kept puffing and quaffing. This time it could be different.

The downturn and associated austerity measures may actually be accelerating a long term decline in both habits in the developed world, raising pressure on the two industries to innovate.

Tobacco sales in developed countries are affected by price, and price is mainly driven by taxes, something austerity-minded governments are busy raising.

"They will look at tobacco as an easy way to tax, much as they would look at the alcohol industry," said RBS analyst Robbie Aitken. "The scale of the downturn this time makes it different."

Beer sales in Europe and North America rose in the recession of 2001 and 2002 for both Heineken and Interbrew, the predecessor of Anheuser-Busch InBev, prompting AB InBev's finance chief Felipe Dutra to remind investors of beer's status as "cheap entertainment" in a 2008 presentation.

But last year, the world's top four brewers all sold less beer than in 2008. Volumes in Europe and North America have dropped particularly sharply.

In some countries with a bar drinking culture, consumers have opted en masse to drink at home. Britain's Punch Taverns announced this year plans to sell more pubs as it struggles to keep them profitable.

This is not necessarily a negative for brewers, but third-quarter results show they also have problems that are a direct result of economic hardship.

Heineken said weak consumer sentiment and austerity measures led to poor third-quarter trading in the Netherlands, Greece, Italy and Spain, parts of eastern Europe and especially Britain.

AB InBev, with almost half the U.S. market, has noted that drinking has tailed off in a key demographic -- young males who have been disproportionately hit by the financial crisis.

SHIFT TO ILLICIT TOBACCO

Tobacco companies are facing the full force of the downturn. Recessions have not always limited smoking in the past, but spiraling taxes on the habit are now turning smokers off, or at least sending them in search of a cheaper option.

"It's a cliche, but with a level of truth. People are much more likely to trade down than to stop," said Euromonitor International tobacco analyst Don Hedley, adding that tax increases, smoking bans and health warnings mean official consumption typically falls 1-2 percent per year in the developed world.

British American Tobacco said in October the current downturn was having an impact that showed no signs of abating. In Japan, BAT expects the market to fall by about one fifth next year.

Cigarette sales in the European Union fell 5.5 percent in the first nine months of 2010, mainly due to declines in Greece, Poland and Spain, Philip Morris International said.

The company blamed tax rises, some imposed as part of austerity measures. Meanwhile BAT and Imperial Tobacco say they are increasingly losing smokers to black market producers.

NEW MARKETS, NEW PRODUCTS

Emerging economies and new product lines are the most obvious source of much needed growth for both brewers and tobacco companies.

Expansion into emerging economies has clearly been rewarding for brewers AB InBev, which dominates Latin America, and SABMiller, a major player in Africa. Philip Morris's shipments to Asia have grown by 25 percent so far this year.

"That's certainly the easy way to grow. The tough way is to gain share in markets that are not growing," said Exane BNP Paribas analyst Javier Gonzalez Lastra.

For brewers in the developed world, more expensive "premium" products are key, from fancy imports to promising sidelines such as cider. Tobacco companies also need to move smokers to premium brands and to keep prices ticking higher. That task may be easier given the masking effect of high taxes.

"The recovery of lost volumes is not that hard in terms of pricing," said RBS's Aitken.

For companies with a firm footing in Europe or North America, the goal is to persuade consumers to pay more for less.

AB InBev and MillerCoors said U.S. drinkers switched to lower-priced beers through 2009, but that trend reversed from the second quarter of this year.

For AB InBev, that may be in part because it raised prices, particularly for lower-cost beers, to narrow the gap between premium and non-premium brands.

Heineken faces perhaps the greatest challenge, with more than half its revenue last year from stagnant western Europe.

The Dutch brewer told investors this month it expected no volume growth in western Europe in the next five years, but it was committed to earning more money from the region.

It is placing hopes on premium beers, such as its own Heineken brand, tequila-flavored Desperados, and cider, which according to Euromonitor has grown by a mid-single-digit percent even during the downturn.

"Cider is ignoring all the downward trends. It is in a league of its own as it has tapped into female and younger drinkers," said Euromonitor drinks analyst Spiros Malandrakis.

(Editing by Andrew Callus)

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