Japan Tobacco Earnings: Robust Pricing and Resilient Volume Lift Profits, but Price War a Concern

Wide-moat Japan Tobacco’s 2914 second-quarter results were ahead of our expectation and its internal targets thanks to solid volume and continued pricing strength. The results again validate our thesis that strong pricing, a product of its moat underpinned by brand equity of combustible cigarettes, will bolster JT’s midterm profits. On the other hand, smokers’ downtrading in Japan and escalating price competition in the market are a renewed concern. We have brought our assumption for foreign exchange mainly for 2023 to a level in line with the updated guidance after the upward revision. The adjustments leave an immaterial impact on our fair value estimate of JPY 3,200. We view shares as fairly valued given a modest upside to our intrinsic value. Price cuts by rival British American Tobacco on its heated tobacco products could lead to intensified competition in the category and will be something to watch for in the next few months. Our profit estimates for 2023 are a touch ahead of the new guidance.

Second-quarter sales rose 6.2% year on year (currency-neutral 7.3% growth) while adjusted operating profits (4.4% growth) were nearly flat given diminished currency benefits and increased costs regarding logistics and Ploom X’s launch in multiple markets. The tobacco business again delivered another robust quarter of pricing and volume growth, thanks to strong price effects in Western Europe and recovery of global travel retail demand. Volume was unexpectedly resilient as the pricing strategies responding to smokers’ downtrading trend in Japan have boosted sales volume and share in the value segment, while the decline in sales volume in Russia is limited, excluding one-off negative inventory movement and the phaseout of Ploom S. Yet, the deteriorated mix in Asia, in part caused by the price cut of heated tobacco sticks and downtrading in Japan, has offset some pricing benefits.