- We maintain our NEUTRAL recommendation on the tobacco sector with HOLDs on both British American Tobacco (M) and JT International, with unchanged DCF-based fair values of RM62.00/share and RM7.20/share, respectively.

- According to an Interpol statement which was highlighted by a local news portal, authorities have warned that the lack of control in the supply chain for cigarette components has been a factor behind the global rise of illicit tobacco products.

- Interpol had identified acetate tow as one of the components that is being oversupplied and used in the illicit trade. Producers of the raw material - a key element in cigarette filters - are believed to be exporting higher-than-legally-needed volumes to cigarette manufacturers. It added that in some instances, the quantity was above the mandated legal production by governments.

- In light of this and the lack of interest by manufacturers to track supplies, the organisation has urged governments to take a more proactive role in the fight against illicit sticks by imposing hefty criminal and civil penalties on those who distribute cigarette components to illicit cigarette manufacturers.

- Illicit cigarettes, which include contrabands and counterfeits, are a major global concern. Roughly 12% (~660bil sticks) of the global cigarette market is thought to be illicit cigarettes. This translates to more than USD40bil of loss in tax revenues. Besides the obvious loss in government revenue, the proliferation of illicit sticks may increase health problems and further strain the healthcare budget.

- In Malaysia, the proportion of illicit sticks is much higher, at 35.7% for 2013 (+1.2ppts YoY), with a 4.5ppts surge in 4Q alone. This was not surprising given that local smokers - who are feeling the pinch due to constant price hikes of duty-paid cigarettes and declining disposable income - are switching to illicit sticks in greater numbers. Over the year, selling prices per pack of 20s have increased by 18%-21%.

- We opine that any laws against the illicit trade will be welcomed by the legal manufacturers. However, should the greater oversight result in an impediment of supplies, we suppose that

these legal players may be negatively affected, too.

- We also note that the Malaysian government had recently underlined its commitment to combat the illicit tobacco trade by amending the Control of Tobacco Product Regulations 2004. The latest revision, which came into effect on 1 January 2014, stipulates that the buyer of illicit cigarettes are now subject to the same laws as the sellers – a maximum fine of RM10,000, jail of up to 2 years, or both. 

Source: AmeSecurities