Tobacco Documents Online

THE REAL COST OF RAISING THE MINIMUM WAGE PAGE 64 i- \ JULY 27, 1987 THE S O CIAL REVOLUTION SWEEPING AMERICA HOW BUSINESS IS DEALING WITH SMOKING RESTRICTIONS A McGRAW-HILL PUBLICATION $2.00 NEW WAYS TO KICK THE HABIT ~ THE IMPACT ON THE TOBACCO INDUSTRY PAG E 40 P 30 I

Aft ~ - - - ~ LL AVERSION THERAPY: CIGARETTE CONSUMPTION MAY DROP BY 3% THIS YEAR 'NO SMOKING' SWEEPS AMERICA SMOKERS ARE FAST BECOMING OUTCASTS-BOTH SOCIALLY AND LEGALLY C o ahead, light up. But look X around. You don't see any ash- trays, do you? Maybe you can't smoke here anymore-no more than you can smoke at work, in restaurants, on airplanes, in public buildings, or even in a few hotels. "It's getting so bad that pretty soon the only place you'll be able to smoke is the closet," laments one high-technology executive who was re- cently lambasted by an angry bystander after lighting a cigarette in an airport lounge. "Who do you think you are, pol- luting this air?" she demanded. No doubt about it, No Smoking is fast becoming the status quo. Ten states and more than 260 communities already have laws that restrict smoking in public places. In California alone, communities have passed 15 smoking-related ordi- nances since December. Officials of the tiny Colorado town of Telluride were so fed up with smoking that they banned it in all public places in June. And on July 14 the House of Representatives ap- proved a measure that would ban smok- ing on most airline flights. BLUE-COLLAR. The smoke is clearing even faster at work. Some 30'/, of the nation's corporations limit employees' smoking on the job, and the National Center for Health Promotion predicts that number will leap to 80% within two years. Proclaims Harvard University's John NL Pinney, executive director of the Institute for the Study of Smoking Behavior & Policv: "We are now becom- ing a nonsmoking society-and policies refiect this." So do tobacco sales. Although per cap- ita consumption of cigarettes has been slipping since the 1960s, overall sales kept growing until the early 1980s be- cause of a growing population and new smokers-mainly minorities. Since then, sales of cigarettes have been dropping. They took their most dramatic plunge ever in 1986: 2`~,. Today, 32'/Ic of the adult population smokes, down from a high of 42% in 1967. Those statistics tell only part of the story. Most of the country's remaining 53 million smokers are blue-collar work- ers and the poor. The middle classes and 40 BUSINESS WEEK;JULY 27, 1987 :JVER STORY

A. QUARTER CENTURY OF PRESSURE TO CRUSH OUT SMOKING = The U.S. Surgeon General declares that smoking causes lung cancer, heart disease, and other respiratory illnesses Labels warning of health dangers are required on cigarette packages Faced with antismoking messages aired under the FCC "fairness doctrine," cigarette makers withdraw advertisements from TV and radio ,_ DA7A Hw professionals are abandoning tobacco. In fact, a $100 million industry is springing up to help them kick the habit. And more and more businesses are catering to a smoke-free clientele, a strategy that would have been economic suicide only a few years ago. How about the jazz club in Atlanta that relegates tobacco addicts to the parking lot? There's no blue haze at Jer- ry Farber's Place. By day it's a regular bar. But at night, ashtrays are pulled off the tables and replaced with No Sinok- ing signs. Then jazz fans who like clean air as much as a good saxophone riff begin filling the 115-seat night 'spot. By closing time, "the outside of the place looks like a butt factory," admits Farber, who is allergic to smoke. SIMPLY GROSS. What used to be accept- able--even hip-is now simply gross in many quarters. "I feel better physically, but I feel better socially, too," says Kris M. Schmidt, a Chicago secretary who licked a two-pack-a-day habit five months ago after 15 years of smoking. "You're really the outcast these days if you smoke." The shift is profound. For 25 years, antismokers fought the tobac- co industry on a shoestring. But sudden- ly the movement looks like a juggernaut. "In 20 years we'll shake our heads and Lsay: `How could anyone ever have ;~.°1- The Surgeon General issues the first report suggesting that second-hand smoke is a danger to nonsmokers ;Q Minnesota passes the first state law requiring businesses, restaurants, and other institutionsto establish no-smoking: areas _= San Francisco becomes the first major city to limit smoking in the workplace Surgeon General Koop and the National Research Council publish results of studies linking second-hand smoke to lung cancer and respiratory disease in nonsmokers. The government curtaifs smoking in federal buildings, and the Defense Dept. orders the military services to cut down as well smoked?' " predicts an ebullient Regina L. Carlson, executive director of \ ew Jersey Group Against Smokers' Pollu- tion (GASP) and a 15-year veteran of the movement. Carlson may be jumping the gun. Af- ter all, tobacco has been ingrained in the culture and economy for nearly 450 years. Christopher Columbus became the first European smoker shortly after he was greeted by the Indians of San Salvador, who had already invented ci- gars, snuff, and pipes. Keeping newly addicted Europeans supplied made Maryland, Virginia, and the Carolinas the most prosperous and powerful New World colonies during the 17th and 18th centuries-so much so that officials had to order the eager colonists to grow food crops. Later, tobacco was the salvation of a South ravaged by the Civil War. Things really got rolling when, in 1911, R. J. Reynolds Industries produced the first blended cigarette, Camels. Com- petitors quickly followed with Lucky Strikes and Chesterfields. Soon cigarette smoking became ubiquitous-chic, mod- ern, celebrated. There was the Marlboro Man, the redcap calling for Philip Mor- ris. Slogans such as "so round, so firm, so fully packed" became part of the American idiom. Several generations re- vered puffing stars from Groucho Marx to Humphrey Bogart and James Dean. Still, the Golden Leaf-or Evil Weed, as it is less affectionately known-has alwavs had enemies who reviled the hab- it and suspected that it wasn't especially healthy. As early as 1604, King James I, repulsed by pipe-smoking Londoners, blasted smoking as "a custom loathsome to the eye, hateful to the nose, harmful to the brain, and dangerous to the lungs." In the mid-1800s reformers preached that it undermined morals and led to heavy rum drinking. During Pro- hibition public opinion raged so strongly that nine states prohibited cigarettes. CRACKED ARMOR. Without hard evidence that smoking was harmful, the periodic outbursts of antitobacco sentiment could never stand up to the tobacco interests' political clout. The industry's muscle in Washington kept tobacco products ex- empt from laws that regulate almost all other products. The Food, Drug & Cos- metic Act, the Consumer Product Safety Act, and the Toxic Substances Control Act do not apply. Tobacco processors don't even have to register their ingredi- ents or submit their products to stan- dard safety tests. "Today no one could introduce a product that we know is as dangerous as this one," says Carlson. It was medical data proving that smoking shortens lives that began to COVER STORY - BUSINESS WEEK!JULY 27, 1987 41

crack the industrv's armor. The first sal- vo was a report by the Surgeon General in 1964 that decisively linked smoking with lung cancer. The federal govern- ment slapped warning labels on ciga- rette packages, and organizations such as the American Cancer Society cam- paigned to warn smokers. By the early 1970s cigarette advertising had disap- peared from television and radio. But the most serious blow came from two reports released last winter, one from the National Research Council and the other by U. S. Surgeon General C. Everett Koop. They presented evidence that "environmental tobacco smoke" in- haled by unsuspecting nonsmokers can cause lung cancer and other serious dis- eases. Although the industry challenges the validity of those studies, they changed the whole complexion of the antismoking movement. Now smokers are on notice: You mav have the right to kill yourself, but not others. "Many people are willing to take on risk, even an enormous risk, them- selves," explains University of California at San Francisco epidemiologist Michael J. Martin. "But very few are willing to tolerate even a small risk imposed on them." So the activists, some of them veterans of other consumer movements, shifted tactics: They stopped harassing smokers "for their own good" and sim- ply demanded the right to breathe clean air. Nowadays "we're just telling smok- ers to step outside, not how to live their lives," says Mark A. Pertschuk, execu- tive director of Americans for Nonsmok- ers' Rights. Meanwhile, companies are telling em- ployees who smoke to give it up because of simple economics. In 1984 treatment of diseases caused by smoking, coupled with lost earnings from tobacco-related illness and premature death, cost the country almost $60 billion,. according to one study. So such companies as AT&T, 'Today no one could, introduce a product that we know is as dangerous as this one' Westinghouse, Bristol-Myers, and Boeing are taking steps to stamp out smoking among their employees. Hon- eywell Inc. has pledged to become smoke-free throughout its U. S. opera- tions. Atlanta's Turner Broadcasting System Inc. won't hire those who smoke. LIE DETECTORS. Even more adamant about having nonsmoking employees is the 5-year-old Non-Smokers Inn in Dal- las. There, job seekers get a polygraph test to prove it's true. Nonsmoking em- ployees are absent less, more productive, and less accident-prone, says Lyndon W. Sanders, president of Kandue Inc., which owns the inn. And Sanders has had no trouble filling the inn's 135 A SIGN OF THE TIMES: SMOKERS NEED NOT APPLY n 1985, Pacific Northwest Bell Tele- phone phone Co. put its 15,000 employees on notice: In three months there'd be no smoking allowed at work-any- where, anytime. The company went ahead even though some managers feared it would prompt protests, law- suits, and an exodus of loyal workers. What happened? Nothing. Nobody sued, nobody resigned. Most of the company's 4,000 smokers cut down and, within six ~ months, 350 of them had kicked the habit. Even the union was pleased. "I'm really glad we were ahead of the vogue," says Susan C. Pisha of the local Communications Workers Assn. "Nobody really has a right to smoke in the workplace." That's what more and more compa- nies are saying. Corporate giants from General Motors and Heinz USA to Tex- as Instruments, Boeing, and Du Pont are tightening policies on smoking or banning it entirely. In Minnesota, Con- trol Data Corp. has joined the local Coalition for a Smoke-Free Society. At Enron Corp. in Houston, employee as- sistance director Helen K. Kreller says the company is considering lowering medical insurance deductibles for non- smokers as an incentive: "We want em- ployees well and off cigarettes." QuiT OR SPLIT. Industry is learning what life insurers-including Franklin Life Insurance Co. and CNA Insurance Cos., both owned by tobacco inter- ests-have always known: Smokers are expensive. Estimates vary, but Group Health Cooperative, a Seattle- based health maintenance organization, concludes that by creating a smoke- free workplace, a company could shave costs by $5 for every dollar it spent-in just two years. "Smokers cost money rooms. He has hosted such staunch to- bacco haters as Surgeon General Koop and the star of Dallas, Larry Hagman. Employers that ignore their nonsmok- ers' pleas for clean air do so at their own peril. They could be inviting "an asbes- tos-style wave of litigation when non- smokers get smart," says consultant Robert A. Rosner, executive director of Seattle's Smoking Policy Research Insti- tute. Already, nonsmokers have won court battles to force companies to limit smoking. Far more worrisome to em- ployers was a decision last December by the Washington State Appeals Court. The court said that Helen McCarthy, an 11-year employee of the state's Human Services Dept., could sue for damages. She claimed her allergy to smoke was so exacerbated by workplace fumes that she developed chronic pulmonary dis- ease-and that her employer was liable. The tobacco industry, however, staunchly maintains that secondhand smoke claims are spurious. The Tobacco Institute, a Washington-based trade group that is the industry's major politi- cal arm, has doubled' its staff to 90 over the past 11 years and continues to churn out reports that make its case. It con- tends that the government's studies on secondhand smoke are based on surveys, not actual measurements of exposure to smoke, and that they examined exposure in the home, not at work or in public places. P,.TR Nabisco claims that it takes a nonsmoker some 24 hours in a tiny, smoke-filled bar in New York to inhale 42 BUSINESS WEEK/JULY 27, 1987 COVER STORY

the nicotine equivalent of one cigarette. The real problem in the workplace, maintains the Tobacco Institute, is not smoke but the "sick building syndrome." During the energy crisis of the 1970s, building owners plugged cracks and cut back on ventilation to save energy. The result: indoor air pollution. Tobacco spokespeople argue that restoring ade- quate ventilation would eliminate the problem. "If you see tobacco smoke hanging in the air, that's a sign of bad ventilation," says Walker Merrvman, vice-president of the Tobacco Institute. PRIVATE EYE. In its effort to counter the opposition's research, the institute has drawn charges of questionable tactics. James L. Repace, an indoor air specialist at the Environmental Protection Agen- cy, wrote a highly publicized report in 1985 concluding that up to 5,000 people die annually of lung cancer induced by secondhand smoke. Repace says he has since become the victim of a smear cam- paign. After the release of his report, Representative Don Sundquist (R-Tenn.), a supporter of tobacco interests, wrote to EPA officials questioning Repace's ac- ademic credentials and suggesting that his outside consulting activities-which included work for nonsmokers' rights groups-constituted a conflict of inter- est. "When I read Sunquist's report," Repace recalls, "I said: 'My God, they've hired a private detective.' " The tobacco companies' attempts to mold public opinion are very well fund- ed. Philip Morris Inc. and ItJR Nabisco lavishly support political action commit- tees. Philip Morris Magazine is sent to MARK PERTSCHUK, CRUSADER "Our goal is to see the tobacco industry go out of business," declares the 29-year-old lawyer and ex- ecutive director of Americans for Nonsmokers' Rights, the nation's largest antismoking lobby. 7 million smokers. The New York com- pany also sends newsletters with advice on how to defeat smoking restrictions. Last year it countered the annual Ameri- can Cancer Society "Smokeout" with "The Great American Smoker's Kit." This spring RJR mailed some 10,000 pam- phlets to executives, urging them to keep the issue of smoking at work in the private domain. The tobacco interests have effectively in sick leave, insurance premiums, le- gal liability, building maintenance, and morale," charges Gail Warden, presi- dent of Group Health. Some employers have become sur- pYisingly aggressive. Because workers at USG Corp.'s ceiling-tile division are exposed to potentially cancer-causing fibers on the job, the Chicago company said it would dismiss those who don't quit-both on and off the job. Experts, however, warn companies against being too zealous. "The point is not to attack the smoker but to create a smoke-free workplace," says Robert A. Rosner, who helps firms set up poli- cies through the Seattle-based Smok- ing Policy Research Institute. He says programs work best when workers are given plenty of notice, the company of- fers to pay for smoking-cessation treat- ment, and policies apply everywhere- from switchboard to boardroom. Even so, some smokers are angry. Take David Brenton, an engineering assistant at Motorola Inc.'s facility in TAKE IT OUTSIDE: A SEATTLE WORKER FIRES UP ON THE FIRE ESCAPE ANR was formed in 1981 and now has about 15,000 members. Its budget of $300,000 and its hundreds of volunteers have helped push through some 250 local and state ordinances, including one mandating nonsmoking areas in Berkeley (Calif.) restaurants enlisted minority groups-the only seg- ments of the population that are still increasing their cigarette consumption. Tobacco companies make hefty contribu- tions to black and Latin political groups, such as the National Association for the Advancement of Colored People and the League of United Latin American Citi- zens. It urges them to oppose smoking restrictions as discriminatory, since the proportion of minorities who smoke is Chandler, Ariz. He formed the Smok- ers' Rights Alliance, whose 190 mem- bers are mainly local residents, to fight all smoking restrictions. His employ- er's program "is a message that my feelings and what makes me happy are not important to Motorola," says Bren- ton, who has vowed to leave his job if the company bans smoking indoors. But not many smokers are lining up to join such groups. A poll at Texas Instruments Inc. found that 90% of all employees favored policies to protect nonsmokers. So far, Rosner contends, there's been little opposition to work- place smoking policies, and no policy has yet been rescinded. Tobacco companies argue that cour- tesy by smokers is a better way to protect nonsmokers at work than for- mal policies. But Boston smoking-poli- cy consultant Rita Addison says many of her corporate clients found that the polite approach failed. To nonsmokers convinced their health is in danger and companies keeping tabs on health care costs, courtesy just doesn't cut it. By Joan O'C. Hamilton in San Francisco COVER STCRY BUSINESS WEEK/JULY 27, 1987 43

THERE'S A WHOLE INDUSTRY OUT TO HELP YOU KICK THE HABIT 6 H i, I'm Jim, and I'm powerless over nicotine," a young, well- dressed man announces to a small group gathered in a San Francis- co social club. "Hi, Jim," a dozen eager voices reply. "I'm a little embarrassed to say it's only been about 45 minutes since my last cigarette." "That's 0. K.," somebody laughs, drawing a round of applause. But Jim is not amused. "I've just got a new job," he says "and they don't want a smoker in it." It's true, Jim. Lots of people want you to give up smok ing these days. And as Jim is finding out at Smokers Anonymous, there are also a lot of people willing to help. As restrictions on smoking spread, the ranks of smoking ees ~, A _ Q05E sation programs are swelling. Smokers wishing to cross into the "non" ~ section will shell out an estimated $100 mil- A Nor.r00-SUE lion this year, accord BILLBOARD IN MI ing to a recent Salo- mon Brothers study, and the amount is likely to grow to $250 million by 1991. They are being hypnotized or listening to stop-smoking records, getting their ears stapled or having acupuncture treatments, being injected with novo- caine or vitamins, chewing nicotine gum or taking Chinese herbal medi- cines. Then there's aversion therapy, or "rapid smoking." Smokers are asked to puff so fast it makes them sick. Aside from going cold turkey, the Smokers Anonymous program, which is modeled after Alcoholics Anony- mous' famed "12-step" program, is one of the few ways to quit that's free. Smokenders, which is offered by Com- prehensive Care Corp., of Irvine, Calif., charges $295 for a six-week program of gradual cutting-down and behavior- modification therapy. The Schick Cen- ters charge $575 for two straight weeks of mild electrical shocks and group support. 'CURRENT FAD.' Some smokers actually kick the habit after going through one of these programs. Smokenders claims a success rate of 55% to 60% after six months. Yet the statistics are skewed by those who fall off the wagon and TLE ANTISMOKING NNEAPOLIS back into the ashtray. Some research- ers estimate that up to 90i~ of Ameri- ca's 55 million smokers have tried to quit at one time or another. Of all the people who make a serious attempt to quit, only about 259'o make it through a year, says psychologist Stephen Tiffa- ny of Purdue University. Solid evidence on what kinds of pro- grams work best is still sketchy. Stan- ford University researcher David P. L. Sachs, who has analyzed more than 450 published smoking-cessation studies, says that rapid smoking combined with behavior modification counseling yields the best results. Other methods-in- cluding hypnosis, sup- port groups, and medi- tation-simply have not been thoroughly studied. Acupuncture, he says, is "a current fad," but has not prov- , en any more helpful y~ than placebos. The two sides of the addiction-chemical and emotional-are what make it so hard to kick the habit. Withdrawal is accom- panied by a craving for the drug, plus a panoply of ills from stomach pains and headaches to dizziness, irritability, and drowsiness. To ease those symptoms, smokers last year bought $50 million worth of Nicorette, the nicotine-laced prescription chewing gum sold by Mer- rell Dow Pharmaceuticals Inc. Researchers are exploring several other drugs, including antihypertensive medications such as Boehringer Ingel- heim Pharmaceuticals Inc.'s Catapres, that seem to reduce the desire to smoke. Eli Lilly & Co. is testing Pro- zac, an appetite inhibitor that may also curb the craving for nicotine and possi- bly alcohol as well. But the chemical withdrawal fades much faster than the emotional reli- ance on cigarettes. Says Lee E. Wahl, Smokenders' general manager and a former smoker: "I was sure my car wouldn't start unless I had a lit ciga- rette in my hand." Eventually, it all seems to come down to one thing-a smoker has to want to stop. And the incentive has never been greater. If smokers prepare themselves for the inevitable, Tiffany insists, "anyone can quit." By Joan O'C. Hamilton in San Francisco i higher than that of whites. Also, minor- ities are less likely to work in private offices where smoking may be allowed. Despite bitter charges of racism, Cleveland City Councilman James Roka- kis won a yearlong battle for smoking restrictions in February. "I've taken a real beating, but that's 0. K.: They'll live longer, I may not." Another restriction in New York City, now tied up in the courts, is opposed by the NAACP. The industry's tactics have helped to water dow-n-even defeat-a few pieces of legislation, including a measure in Connecticut to ban smoking in restau- rants. And they have played on the fears of business, such as restaurant owners, that smoking bans will cost them dearly in lost sales. Ultimately, the tobacco companies hope to create a backlash. "A lot of smokers and nonsmokers think it's gone too far," says William I. Campbell, executive vice-president for marketing at Philip Morris USA. In the long run, the industry cam- paign may backfire. Indeed, there is lit- tle evidence that the antismoking cru- sade is losing steam. Activists in New Jersey are lobbying to strengthen laws that forbid sales of cigarettes to minors. Maine has already ripped out tobacco vending machines where minors have ac- cess to them. The state health depart- ment in Minnesota has mounted a $600,000 advertising campaign to turn teens off the habit by highlighting its social liabilities: "Get Bad Breath in Two Flavors," says one billboard under draw- ings of two cigarette butts, one regular, one menthol. PEER PRESSURE. In Washington, increas- ingly well-funded activist groups are set- ting up shop across town from the To- bacco Institute. Such organizations as Action on Smoking & Health (ASH), a 19- year-old lobbying group, and the Coali- tion on Smoking or Health formed by national health organizations such as the American Cancer Society, "will radically change the way Congress acts on smok- ing issues in the future," predicts John F. Banzhaf, director of ASH. Congress is considering a raft of bills that will fur- ther hobble the industry: banning tobac- co ads, prohibiting smoking on airplanes, raising excise taxes, and strengthening smoking regulations in federal buildings. Ultimately, legislation may prove less effective than the force most smokers say propelled them into the habit in the first place-peer pressure. Admits one smoker trying to give it up: "A lot of smokers secretly hope their employers ban smoking to help them quit." Clearly, smokers are getting a different message these days: Put that damn thing out! By Joan O'C. Hamilton in San Francis- co and Emily T. Smith in New York, with Paul Angtiolillo in Boston, Reginald Rhein Jr. in Washington, and bureau reports 46 BUSINESS WEEK/~ULY 27, 1987 COVER STORY

BIG TOBACCO'S FORTUNES ARE WITHERING IN THE HEAT F rom his rooftop garden, fourth-gen- eration tobacco dealer Tazewell M. Carrington III looks out over downtown Richmond. The golden leaf reigned for more than a century in this Virginia city, where Shockoe Slip and Tobacco Row were home to tobacco deal- ers, brokers, and factories. But now the historic buildings are fast turning into offices, bars, and shops. The 69-year-old Carrington is the last tobacco holdout on the Slip-and he's switching to real es- tate. "You just got to find another way to make a dollar," Carrington says. "To- bacco is kind of a dirty word." The changes in Richmond are a sign of the times in the $35 billion U. S. tobac- co industry, which runs the gamut from small dealers such as Carrington to gi- ant producers such as the $7.1 billion Philip Morris USA. The business has weathered past years of bad news, from Surgeon General's reports to tax hikes. But the forces that turned tobacco into a dirty word are accelerating more and more as social, legal, and financial storm clouds gather over the industry. "We're under a hell of a siege," says Harold A. Grant, marketing vice-president of Lig- gett & Myers Tobacco Co. BATTLE CRIES. With little hope of revers- ing the slide in sales, tobacco companies are responding by cashing in rather than fighting back. Consolidation is sweeping the tobacco belt, thinning the ranks of farmers, dealers, distributors, and manu- facturers. For the survivors, cost-cut- ting, international expansion, and diver- sification are the new battle cries. To bolster revenues, the tobacco companies are resorting to price hikes-despite the damage this strategy does to consump- tion in the long run. "The handwriting is on the wall," says Goldman Sachs & Co. analyst Lawrence S. Pidgeon. "The idea is getting it while the getting's good." For the first time since 1954, unit sales of all tobacco products fell last year, according to the Agriculture Dept. Cigarette sales have been sinking since the early 1980s, and things are getting worse. Last year's retail slide of 2%c was more severe than the most bearish pre- dictions, and Prudential-Bache Securities Inc. analyst George E. Thompson ex- pects sales to fall 3% to 5% a year for the next five years. Meanwhile, prices keep spiraling high- er. For the past five years wholesale cigarette prices have increased much faster than inflation, and higher taxes have helped nearly to double the aver- age retail price of a pack to $1.15. In the past year alone the cost of smoking has jumped more than 15%. Some analysts see price hikes of as much as 10% in 1987, or more than double the expected inflation rate in consumer goods. While the increases are raising sales and profits, they're making the market shrink faster. Higher prices reduce de- mand, and they affect teens-potential new smokers-more than adults. "One more price increase and people say, 'That's it,' " an Atlanta-based tobacco EVEN THOUGH ...TOBACC® COMPANIES ... BtlT THAT STRATEGY CIGAitETTE SMOKING KEEP RAISING PRICES IS PROVING LESS IS FALLING... TO BOOST REVENUE... AND LESS EFFECTIVE 650 625 lILLIEIRS~lF`- OGItRMK 600 575 0 80 '81 '82 '83 '84 '85 '86 DATA: AGRICULTURE DEPT. W ~r 1.00 .75 l1YERAGE REIAtE PRICE PWPJ[CK .50 219_1§s MR_As M1' '80 '81 '82 '83` '84 '85 '86 'FEDERAL EXCISE TAX DOUBLED TO 16t PER PACK DATA: TOBACCO INSTITUTE 14 12 10 80 '81 '82 '83 '84 '85 '86 DATA: AGRICULTURE DEPT. ~ f COVER STORY BUSINESS WEEK/JULY 27, 1987 47

DEALER CARRINGTON: "YOU JUST GOT TO FIND ANOTHER WAY TO MAKE A DOLLAR" distributor complains, noting that even some of his employees have kicked the habit because of high prices. "And they buy wholesale," the vendor moans. Still higher state and federal excise taxes may be on the way. The Senate Finance Committee supports doubling the current federal tax on a pack of cigarettes to 32c late this year. Al- though many House members oppose the move, tobacco's support is waning in Washington. "The decline is going to be rugged if they double the excise tax," says Salomon Brothers analyst Diana K. Temple. If it goes through, she predicts, unit sales will fall at least 7% in 1988. FOR. FARMERS, TOBACCO ROAD LEADS NOWHERE obacco Road. That's what the T folks who live here call the arc of poor, red clay soil stretching from Virginia to Georgia. Nothing takes to the blistering, dry summers quite so well as the golden leaf, and fgr Aearly 400 years tobacco has been a way of life for the region's many small ,farners. Even today, few crops bring _ in more than the $3,500 that one acre of top-grade leaf fetches at the late- :suinmer auctions. Profits run as high as $1,t300 an acre. But demand is down, imports.are up, tlie once-fierce tobacco lobby in Wash- ;mgton is weakening-and tobacco's grip,on Southern life is loosening. This far'mers are tending just half '#he.acreage.they did a decade ago. -~-ts_:Along the dusty dirt roads of east- ~zin. North Carolina, signs of the de- clitie are everywhere. Weeds thrive in 'wv fields. Weathered curing barns, s sagging; ~~ stand abandoned. Gius-_ bf stumps mark w*here the state's famous tall pines were cut to sell for "quick cash. T'iny, patches of tobacco still grow in the _front yards of small wood-frame houses, even schoolyards, to provide a little extra cash for.Christmas. Yet in North Carolina and Kentucky alone, where two-thirds of the nation's flue- cured and burley leaf grows, roughly 4,000 farmers got out last year. No PRIMROSE PATH. In better times, Thomas J. Jordan's 250-acre farni in Panther Branch, a hamlet near Ra- leigh, brought in enough cash to sup- port four families-"and with a little more, let them send their kids to col- lege," he says. "Now you couldn't send them to church on Sunday." This year Jordan's allotment from the Agriculture Dept., which controls tobacco production for the federal price-support program, is only 16 of his acres. He has rented an additional 24 acres from neighbors too, old to work their allocations. But Jordan.is still not sure he can make ends meet: Tlie rent on farmland can eat up half the prof- its. So he's considering selling to a resi- dential developer. "I've about had all I want of it," _ he says. In nearby Selma, Al B. Montgomery is trying to hold on with a mere nine acres of tobacco under cultivation. When federal excise taxes doubled in 1983, unit sales plummeted 5%. The deteriorating tobacco market is also hurting makers of paper, packag- ing, and materials. Cigarette advertising in newspapers and magazines plummet- ed $250 million, or 25%, from 1984 to 1986. And retail outlets such as conve- nience stores rely heavily on cigarettes as traffic-builders. "There is a tremen- dous dependency on cigarette sales," as- serts Peter Strauss, owner of New York tobacco distributor Metropolitan Distri- bution Services Inc. HOUSE DIVIDED. The industry is trying to fight antismokers with fire of its own. It has stepped up its lobbying on Capitol Hill and widened its reach to defend it- self in state and local battles. It some- times provides legal help for smokers trying to combat restrictions. And it con- tinues to counter a sea of adverse re- search on tobacco with its own scientific views. The industry argues that evi- dence to date doesn't show any indiSput- able link between tobacco and health problems. Companies hope to drum up a grass-roots backlash against anti- smoking crusaders by likening them to narrow-minded Prohibitionists. While legislators from tobacco-produc- The third-generation tobacco farmer switched to discount cigarettes to scrimp for pocket change, and his wife has taken a job in a nearby factory. But so far he has resisted her pleas-to sell. "When you're 55, without a high school diploma, you don't have very many choices," he, says. Switching to other crops is not much 48 BUSINESS WEEK/JULY 27, 1987 COVER S i ORY.~,"

ing states still have an important voice in Congress, the industry concedes that its clout has slipped. Southern Demo- crats from tobacco states have lost many important committee chairman- ships in recent years. Tension between farmers and companies, which are turn- ing to cheaper, impor%d leaf, is dividing industry influence, too: "It's helped lose a powerful force on Capitol Hill," says Horace R. Kornegay, former chairman of the Tobacco Institute. Faced with declining sales for the foreseeable future, tobacco companies are concentrating on their margins. At the Philip Morris cigarette plant in Rich- mond, tobacco shavings are carefully swept from the floor, reconstituted into sheets, and pushed through the factory again. The industry is bracing for more plant consolidations and layoffs after a big round of cutbacks two years ago. In early June, RJR offered an early retire- ment package to 2,800 of its more than 16,000 tobacco workers. Like other manufacturers, cigarette makers are automating more. As part of a $2 billion modernization begun in 1980, xiR opened a state-of-the-art Tobacco- ville (Va.) plant late last year. Machines handle the cutting, drying, and blending once performed by hand. Reynolds fig- ures the plant eventually will produce of an option. Most of the farms on Tobacco . Road are too smatl for such cash crops as wheat, or for dairy farm- ing. Some farmers have tried to grow specialty crops, but with mixed results. Selma farmer_ Ronald L. Woodard's first field of primrose didn't sprout, and he plowed under his next crop when the _ buyer didn't show. "If you 110 billion cigarettes annually, double the output of an older facility that has three times as many employees. For much of the industry, however, the big gains from plant automation and consolidation have already been seen. As a result, the industry's profit growth, which had averaged 15% a year for the first half of the decade, has now slowed slightly to about 13%o. Much faster ciga- rette machines would take a quantum leap in technology, and all but R.TR and Philip Morris have shrunk to just a sin- gle plant. "We can't consolidate much more," says Thomas E. Sandefur Jr., president of Brown & Williamson Tobac- co Corp., the U. S. tobacco arm of Lon- don-based BAT Industries PLC and the na- tion's third-largest cigarette maker. PRICE WAR? The market contraction is taking its worst toll on the small play- ers. Cigarette sales and profits are fall- ing into the hands of the industry's two biggest producers, Philip Morris and R. J. Reynolds, which commanded a com- bined share of about 70% of the market last year. Unit sales over the past three years at American Brands Inc. and Lig- gett fell at a compound annual clip of 6.86% and 6.73%, respectively, according to BUSINESS WEEK estimates. While companies have raised prices, they have also begun to offer low-priced can make a living playing poker, that's just as good," says Eddie Scott Jr., a farmer in Kenly, N. C. Some who have sold out are being absorbed into the Sunbelt's new manu- facturing plants. In Georgetown, Ky., Toyota Motor Corp. is hiring more than 2,000 workers to build an auto plant that will employ 3,000. Young people generic, private-label, and discount brands to keep price-sensitive customers smoking. Off-price cigarettes, which sell for about 25% less than name brands, accounted for about 9% of U. S. unit sales last year, up from less than 1% in 1981. While the growth of no-narpe gen- erics slowed last year, discount brands such as R.7R's Doral are taking off. A few years ago, companies began offer- ing packs of 25 cigarettes for the same price as packs of 20. Now, Liggett is test marketing a 30-cigarette pack. But the pricing competition threatens the margins the industry is working so hard to expand. Off-price cigarettes are less than one-third as profitable as full- priced brands, where margins can ex- ceed 25%. Only Lorillard Inc., the tobac- co unit of Loews Corp., refuses to enter the off-price market to maintain share. Lorillard President J. Robert Ave says that tactic only cannibalizes sales and the higher profits in the full-margin la- bels. Instead, Lorillard focuses on niches, such as its fast-growing Newport brand, which is now aimed at young blacks. Most executives doubt that a full-scale price war will erupt, but recent experi- ences in Canada offer a cautionary tale. After per capita consumption of ciga- rettes tumbled a stunning 14%o from from Selma and Kenly are flocking to support jobs at laboratories in Re- search Triangle Park outside Durham. The growth there is also creating a market for nearby farmland. Durham real estate agent Albert L. Hight sold a 98-acre farm for $2.5 million. "With that kind of money, you're crazy to keep digging in the dirt," he says. Such prices are far from common- place, however. More often there's the desperation of farmers who are locked into tobacco. Bribing buyers with a ham or fifth of whiskey at auction was always common, but nowadays some growers are taking bigger risks. Buy- ers complain of farmers "nesting," or padding, the bottom of tobacco bundles with inferior leaf-and even bottles, scrap metal, bricks, or tire slivers. Although many remain hopeful that their fortunes will improve, some farm- ers confess to feeling guilty about growing tobacco. The barrage of anti- smoking reports on TV, says Montgom- ery, "makes you feel like an outlaw." Then again, there's Davey H~ Dickens, a tobacco farmer in nearby Fuquay- Varina. Although he has kicked his pack-a-day habit, he refuses to quit growing his 45-acre crop. Says Dick- ens, 29, who started driving his fa- ther's tractor at the age of 5: "I've got a whole life invested in this." -t . By Dean Foust in Selma COVER STORY ' BUSINESS WEEK/JULY 27, 1987 49

1982 to 1985 because of higher taxes and a successful antismoking campaign, Rothmans of Pall Mall Ltd. began offer- ing a 30-cigarette discount pack. Before the ensuing war ended late last year, the industry rang up losses of about $75 million, estimates Neil__ Wickham, a con- sumer-products analyst at Toronto's Walwyri Stodgell Cochran Murray Ltd. "It was a stupid game," Wickham says. WORLD CONQUEST. Despite the recent problems in Canada, the U. S. tobacco industry is eyeing international markets for growth. Although demand is falling in countries such as Britain and Japan, worldwide unit volume is rising at about 1% annually. For some U. S. marketers, international unit sales are growing by as much as 5% a year. "The whole world is an opportunity," says Frank E. Res- nik, president of Philip Morris USA. The whole world may not prove to be as profitable as it sounds, though. With all the major U. S. companies counting on overseas sales, fierce competition and higher foreign excise taxes are likely to squeeze margins in international mar- kets. Kidder, Peabody & Co. expects RJR's international sales to grow 17% this year but earnings to in- crease only 7%. At American Brands Inc., international mar- gins of 3.9%~ pale in comparison with the 24.8% profit it com- mands on sales in the U. S. "But we continue to want more unit sales 4o help underwrite the costs of production in our plants," explains the newly named chairman of American Brands, William J. Alley. The tobacco industry is even looking for ways to cash in on the growing antismoking move- ment. Early this year, Pinkerton Tobac- co Co. began test-marketing a chewing product called Masterpiece Tobacs, made with finely ground leaf mixed with a cinnamon- or peppermint-flavored gum- like base, intended for use by smokers when they can't light up. "We needed to find a more convenient and disci•eet to- bacco product," explains Robert B. Sei- densticker, Pinkerton's president. 'COURTEOUS SMOKE: Brown & William- son is taking a stab at innovation, too. In January it began testing Capri, an ul- traslim cigarette about 30% thinner than other styles and aimed at women. It will give off fewer noxious fumes to annoy nonsmokers. "It's a more courteous and conscientious smoke," says one industry executive. Even better, the new ciga- rettes could be much more profitable, because they contain less tobacco. Tobacco company executives also hint that there's hope for a high-tech, "safe" cigarette. The advent of the filter tip in the 1950s sent the industry on an un- precedented growth path for two de- a: 0 cades, and low-tar cigarettes have been hot products, too. Now, Moloney Mfg. Corp. in Chicago may introduce Health Savers, a cigarette with a filter that sup- posedly delivers only 5% of the tar and nicotine in current brands. But the idea of a safe cigarette doesn't pass muster with antismokers. "It gives smokers a false sense of security," complains Ron- ald M. Davis, director of the U. S. Office of Smoking & Health. Others don't believe the hunt for a safe cigarette will pay off, and the in- dustry clearly isn't pinning its hopes on it. So the diversification moves by the tobacco companies are picking up speed. American Brands has spent nearly $4 billion and acquired more than three dozen companies over the past 20 years. Once the largest U. S. tobacco company, American now em- braces a wide ar- ray of brand names, including NOVELTIES: TOBACS MDCES TOBACCO AND GLaM. CAPRI IS ABOUT 30% TNINNER Titleistt golf products, Jergens lotion, Cheez-it crackers, Master Locks, Frank- lin Life Insurance, and Pinkerton's secu- rity services. In 1985, Philip Morris swallowed Gen- eral Foods Corp., and RJR merged with Nabisco Brands Inc. Now, R.TR Nabisco has sold its Heublein Inc. wine and spir- its business and its Kentucky Fried Chicken unit. Analysts believe that RJR Chief Executive F. Ross Johnson is mov- ing to clean up the company's balance sheet for more acquisitions. Even tiny, private Liggett is talking about diversi- fying into other consumer goods. "By 1997, you won't recognize these compa- nies," says Montgomery Securities ana- lyst Emanuel Goldman. But while the tobacco companies can diminish their reliance on the golden leaf, they'll have a hard time replac- ing its profits. "There isn't anything you can buy with the same profits as tobacco," says Furman Selz Mager Dietz & Birney Inc. analyst John C. Maxwell Jr. "There's just nothing more lucrative than those little white tubes." Still, RJR's Johnson considered spin- ning the company's tobacco unit into a master limited partnership earlier this year, prompting rumors that RJR might abandon tobacco altogether. Ross and other x.1R officials insist that they are committed to the tobacco business. But Johnson has already repackaged a.TR's U. S. and foreign tobacco operations into tidy units that could be sold easily. With- in five years, says one analyst, "I think they'll try to sell tobacco." MISMATCN€S. While the combination of R,7R and Nabisco is widely applauded, the industry has had its share of ill-fated acquisitions. Such problems are one rea- son tobacco stocks are trading at some of their low- est multiples in histo- ry-nearly a 45% dis- count to the overall market, compared with an average 16%~ discount over the past five years. Investors may also be shying away from tobacco stocks because of a darker shadow across the indus- try: the prospect of product liability. Companies have never lost a tobacco liability case, but now the industry is defending itself against a new wave of aggressive lawsuits seeking damages for smoking-related deaths or illnesses. In recent weeks, judges in closely watched cases in New Jersey and Mississippi have dealt serious blows to the industry, ruling that compa- nies must reveal damaging technical in- formation and internal documents that they had tried to keep confidential. Plaintiffs' lawyers are now optimistic despite two decades of court losses be- cause rulings by state courts in person- al-injury lawsuits are making it much easier to win liability cases against man- ufacturers. The stakes for the industry are enormous. A conservative estimate by public health officials attributes 350,000 deaths to cigarette smoke every year, and each death is a potential liabil- ity for cigarette makers. "In the long run, I think we're going to win," says John F. Banzhaf III, director of Action on Smoking & Health. "With just one victory, the dike will be broken." Even if lawsuits flood the industry, however, few people believe that tobacco will soon be washed into the history books. Tobacco is addictive, after all, and the slides in sales could level off once only hard-core, heavy users remain. But even diehard fans won't deny that these are the most trying of times for tobacco, and it's looking more and more like the beginning of the end. By Scott Ticer in Atlanta, with Resa bl'. King in Stamford and bureau reports COVER STORY Si2BlJSINESS WEEK/JULY 27, 1987