Midas asked Dionysus for the golden touch and got exactly what he asked for. Then his bread turned to gold in his hand, his wine to metal in his throat, and his daughter to a statue in his arms. The curse was never that the wish was denied. The curse was that it was granted — and that the gift did not discriminate between what he wanted to gild and what he needed to live. For three years the U.S. majors have wished, with both hands, for the same thing: enforcement against illicit Chinese disposables, and a level playing field with a real legal pathway for flavoured vapour. This fortnight, the wish is being granted. This issue is about the part of the gift they did not ask for.

I. Snapshot

The wish is being granted — and the gold does not discriminate. I’ll keep this short because we’ve tracked the FDA’s punitive-to-permissive turn since Issue #3 and the incumbent-asymmetric read since Issue #4. What’s new this fortnight is the execution and the first pushback: on 4 June, six Senate Democrats wrote to Altria and Reynolds demanding detail on contributions and lobbying tied to the enforcement regime, CTP signalled further authorisations likely in the coming months, and a 12 June agency memo showed the first flavoured authorisations did not demonstrate superior cessation benefit versus tobacco-flavoured products. The deeper point is the Midas point, developed in the centrepiece: a level playing field is by construction indiscriminate. It does not gild only the incumbents’ products. It gilds everyone’s — including the most PMTA-fluent supply chain on earth, which is not American.

ZYN Ultra finally shipped — which confirms the “Pandora’s box,” not the “catalyst.” I argued in Issue #1 that the fast-track many read as a PMI share-price catalyst looked instead like a Pandora’s box, because the same door that admits ZYN Ultra can one day admit a U.S.-legal VELO 2.0, and ZYN Ultra has never beaten VELO in a moist format anywhere in Europe. I won’t re-run that thesis. The new fact is simply that ZYN Ultra began U.S. shipments in the first week of June — at a per-pouch price below regular ZYN. Launching your moist-format counterattack beneath your own flagship price is a challenger entry, not a defence from strength. The box is open.

BAT quietly upgraded U.S. vapour to double-digit — but it’s being handed a shrinking pie. The substantive in-window event was the 2 June pre-close: mid-teens New Category revenue for H1 and FY, a global cigarette industry volume cut driven by Bangladesh, and — the buried lede — Vuse U.S. lifted from “flattish” to double-digit, attributed to underlying enforcement-driven market improvement before the Q3 flavoured Vuse launches. Read against scanner data showing Vuse up high-single-digit dollars while the legal e-cig category contracts double-digits, this is enforcement attrition handing BAT a smaller legal pie, not BAT winning a larger one. The gift again.

While the giants stare at the U.S. smokeless prize, two smaller rivals are quietly compounding double-digit — see the centrepiece. The single most under-priced development this fortnight isn’t in the U.S. at all. Japan Tobacco’s international combustible franchise is growing genuinely strongly, and KT&G is growing its international business at double digits in both volume and revenue — a thing essentially unheard of in this sector for years, where the entire mental model is “volume decline offset by price.” When a challenger posts double-digit volume and revenue, it is taking share from larger players. The question is whether those larger players are looking.

Velo Plus pricing firms further; on! PLUS is still distribution, not velocity. Both established last issue, so briefly: Velo Plus continues to take pouch share with positive and firming pricing as PMI holds promotion back — the virtuous cycle I flagged in Issue #4 is intact, and so is the negative-mix paradox (a winning brand that dilutes BAT’s own smokeless price/mix because it sits below traditional moist). on! PLUS national rollout is complete, combined on! dollar sales rose mid-to-high teens, but regular on! volumes fell, and total category share barely moved — the cannibalisation signature, unchanged from Issue #4.

II. The Centrepiece — The Golden Touch

Three connected arguments carry the theme: who actually walks through the door the majors held open; why the gold may make them starve elsewhere; and why the one assumption every tobacco long quietly depends on is the one most at risk this cycle.

1. A level playing field is indiscriminate — and the majors do not have it to themselves. Midas could not gild only what he chose. The enforcement-discretion guidance shields any product with a PMTA accepted-and-filed; the level playing field then legitimises every compliant entrant. And the most under-appreciated fact in U.S. nicotine is who already sits in that pipeline. The world’s largest vapour manufacturer is not American — it is Shenzhen-based Smoore International (6969.HK), the ODM behind FEELM and Vaporesso, which holds the most PMTA-authorized ENDS products of any manufacturer and built China’s first full-scale PMTA testing laboratory specifically to industrialise U.S. market access. FEELM is what carried NJOY through PMTA in the first place; Vaporesso’s own applications are in late-stage review. So the same Chinese atomization ecosystem that built the illicit disposables the majors want crushed is also the most PMTA-fluent legal supplier on earth. Enforcement clears the unlicensed fringe; the level playing field invites the licensed Chinese-engineered product through the front door. And here is the accelerant nobody is modelling: an accepted-and-filed PMTA is a transferable asset. A Chinese manufacturer that wishes to compress its U.S. time-to-market need not wait its turn in the queue — it can acquire a holder of filed PMTA status. A wish for a legal flavoured market is, definitionally, a wish for more legal competitors — and the most capable of them do not answer to Winston-Salem or Richmond.

2. The gold is so bright they may starve elsewhere — the Black Gate problem. Midas starved in a room full of gold because every loaf turned to metal before he could eat. The Return of the King makes the same warning structurally: Aragorn marches a hopelessly outnumbered army to the Black Gate not to win, but to fix the Eye on the threat it can see — while the only thing that can actually end Sauron, carried by two figures too small to register, slips toward the fire on the far side of the country. Sauron loses because he stares at the army and ignores the hobbits.

The U.S. smokeless prize is the army at the Black Gate. It is loud, it is in dollars, it dovetails with the ZYN-versus-Velo-Plus war the whole sector is transfixed by, and it will absorb an enormous share of senior-management bandwidth and capital across PMI, Altria and Reynolds over the next 12–18 months. Meanwhile, two figures are advancing on the thing that actually decides the war — global market share. Japan Tobacco is growing its international combustible business strongly. KT&G is growing its international business at double digits in both volume and revenue. Sit with how strange that is. In a category whose entire investment grammar is “low-single-digit volume decline, rescued by price,” a challenger posting double-digit volume and double-digit revenue is not riding the market — it is taking it, from someone. That someone is, by arithmetic, a larger player whose attention is elsewhere. Every incremental hour the majors’ C-suites spend architecting the U.S. pouch shelf is an hour not spent defending share in the markets where JT and KT&G are quietly compounding. The prize is real. So was the army at the Black Gate. The risk is mistaking the spectacle for the war.

3. The assumption nobody prices — and the precedent everybody forgot. Every tobacco equity, at every multiple, rests on one quiet load-bearing assumption: market share is durable and the competitive landscape is stable. It is what permits these cash flows to be capitalized at a high earnings yield rather than a venture multiple — and, as I argued in Issue #1, narrowing the discount rate by proving share resilience can be worth as much to shareholders as chasing growth, at a fraction of the risk. But durability is not a property of the asset. It is a property of management humility. It holds only so long as the people running these companies refuse to take their share for granted and stay paranoid about a marketplace that turns the instant they look away. The sector’s own history is the warning: R.J. Reynolds was the undisputed king of U.S. tobacco — until Marlboro and a Philip Morris that simply wanted it more dethroned Reynolds, which was busy diversifying from its core business. Kings are rarely beaten by stronger kings. They are beaten while congratulating themselves. The next dethroning never announces itself; today it is wearing JT and KT&G colours and growing where no one is looking. A permissive FDA that floods management attention into one dazzling, granted wish is precisely the condition under which a complacent incumbent stops watching the bridge at Mount Doom.

III. Dynamic Signal Matrix

Philip Morris International (PMI)

New this period. ZYN Ultra began U.S. shipments (first week of June), at a per-pouch price below the flagship — the long-deferred launch tracked since Issue #1 is finally real, and it confirms the Pandora’s-box read rather than the catalyst read. CFO transition (covered Issue #4) on track.

🟡 Modern Oral. No change to the structural picture from Issue #4: ZYN dollar share in the high-50s, down 12+ points y/y; category outgrowing the brand; Velo Plus taking the delta; promotion held back to protect margin while the ~60–65% premium persists. The only genuinely new variable is Ultra’s arrival into a moist format ZYN has never won.
🟢 Heated Tobacco. Awaiting the post-1 April Japan HTU elasticity read — the consequential 2026 test, still maturing. The 21 May Japan health-panel HTP question (Issue #4) remains a narrative wrinkle, not yet action.
🟢 Combustibles. Marlboro international momentum intact; nothing in the window challenges it.
🟡 Capital & Regulatory. The permissive shift narrows PMI’s first-mover moat (already authorised, it gains little while pending peers — including Chinese-engineered ENDS — gain optionality). The 4 June Senate letters add political tail-risk to the regime the U.S. pouch thesis leans on.

Watching: ZYN Ultra trial-to-repeat and whether it sources from Velo Plus or merely cannibalises regular ZYN; whether ZYN promo share rebounds toward ~30% of sales (defence confirmed); four-week Japan HTU off-take post-tax-hike.

Altria (MO)

New this period. Nothing structurally new versus Issue #4; the 4 June Senate letter is the fresh item. The two-track pricing ladder and on! PLUS cannibalisation read is unchanged.

🟡 Combustibles. Marlboro dollar share slipped to the low-40s while Basic crossed toward 2% on triple-digit dollar growth — the brand-equity-for-volume-retention trade established in Issue #1, now with the April list-price increase flowing through and risking a wider trade-down gap.
🟡 Modern Oral. on! PLUS distribution complete; combined on! up mid-to-high teens, but regular on! down and total category share flat — distribution, not velocity (Issue #4).
🔴 Vapor. NJOY a non-event; ACE not assumed to return — a reminder that even an authorised portfolio can be neutralised by litigation and execution, not only by regulation.
🟡 Capital & Regulatory. Permissive shift neutral-to-slightly-positive (already authorised). Senate letters introduce reputational tail-risk. FY26 EPS $5.56–$5.72 reaffirmed.

Watching: on! PLUS sequential share (if flat despite full distribution, cannibalisation dominates); Basic’s path through 2%; whether April Marlboro pricing accelerates the dollar-share slide.

British American Tobacco (BAT)

New this period. The 2 June pre-close: mid-teens New Category revenue, U.S. vapour upgraded to double-digit, global cigarette volume cut on Bangladesh. BAT remains the purest embodiment of the theme — winning loudly in U.S. pouches just as its larger, higher-margin European VELO franchise faces the existential question opened in Issue #4.

🟢 Modern Oral (U.S.). Velo Plus at double-digit dollar share of total smokeless / ~a fifth of tobacco-free pouches, triple-digit volume growth, pricing now positive (up ~a quarter to a third y/y) yet still at a discount to ZYN. The virtuous cycle is real; the margin/mix paradox (a winning brand diluting segment mix, Issue #4) is the live debate.
🔴 Modern Oral (Europe). France’s criminalization of pouch possession and sale (Issue #4) now meets a Council of State merits ruling due by end-June and an EU TPD call-for-evidence closing 15 June. The European growth assumption set needs re-underwriting against a contagion map.
🟡 Combustibles. Resilient on price/mix; U.S. share broadly held with Doral expanding selectively; Bangladesh now the principal global-volume drag (the sole driver of the cut forecast).
🟡 Vapor. U.S. Vuse up high-single-digit dollars, consolidating a contracting legal pie; Q3 flavoured-Vuse / Velo Max window (Aug–Sep). Europe still ceding closed-pod share to VEEV.
🟡 Heated Tobacco. glo continues to lose Japan share, most plausibly to JT’s Ploom rather than IQOS (the persistent read since Issue #2); glo Hilo and Hyper Pro Plus underpin an H2 recovery attempt.
🟢 Capital & Regulatory. On track for 2.0–2.5x by year-end; progressive dividend and £1.3bn buyback. Europe-wide engagement on the EU consultation is pre-emptive defence of the European book. Chairman succession (Jobin’s mandated mid-2026 departure) is a new governance watch-item.

Watching: France Council of State merits ruling (end-June) — phased enforcement vs. immediate withdrawal materially changes H2 European impact; whether a second EU member state (Italy/Spain the test) follows within four weeks; what September’s Winston-Salem CMD says about European modern-oral strategy — the tell on whether the Black Gate has captured the gaze.

Imperial Brands (IMB)

New this period. No in-window earnings; the late-May Black Buffalo acquisition and blu MAX launch (both Issue #4) remain the backdrop. Imperial’s smaller smoke-free footprint is, ironically, partial insulation from the granted-wish risk — it has less moat to lose from a level playing field because it never built the one the majors are now watching erode.

🟡 Combustibles. U.S. dollars down low-single-digit on low-double-digit volume declines, held by mid-to-high single-digit pricing; Crowns the aggressive low-end growth vehicle, Sonoma allowed to decline via price. UK/Spain pricing flow-through is the H2 lever to close the H1-to-FY guidance gap (Issue #3).
🟡 Modern Oral. Zone shipment volume up 40%+, ~109,000 stores, share ~2.8% with positive pricing — still the only major running price and volume. Black Buffalo adds a moist/long-cut wedge toward traditional-smokeless converters.
🟢 Vapor. myblu U.S. exited (Issue #3); blu the European anchor, blu MAX 6000 extending into larger pods — a coherent geographic posture.
🟢 Heated Tobacco. Pulze 3.0 share gains continue; immaterial in absolute revenue.
🟢 Capital & Regulatory. £1.45bn FY26 buyback on track. Highest UK earnings exposure of the majors — the most levered name to UK-style generational-ban contagion as Vietnam and Canada advance frameworks.

Watching: H2 AOP cadence; Zone’s ability to hold positive pricing as Velo Plus / on! PLUS / ZYN Ultra intensify around it; Black Buffalo integration timing; Australia stabilisation post-resizing.

Japan Tobacco (JT)

New this period. No in-window earnings (Q1 was 8 May). The reads are the maturing post-tax-hike Japan HTU scanner data and — the centrepiece point — JT’s genuinely strong international combustible momentum, the kind of share-take that only shows up when a larger player looks away.

🟢 Combustibles. Strong international franchise and U.S. discount consolidation (L. Ducat the fastest-growing major U.S. brand by sales; Montego contracting — concentration risk acknowledged, Issue #2). Russia remains a singular pricing tailwind on high nominal income growth and a firmer rouble — and, symmetrically, JT’s structural fragility under the same outlook’s downside scenarios.
🟢 Heated Tobacco. Ploom continues to take Japan HTU share, most plausibly from glo rather than IQOS; the post-hike off-take read is the durability test.
🟡 Modern Oral. Not a strategic priority; no developments.
🟡 Capital & Regulatory. Russia exposure is the asymmetry US-listed peers don’t carry; the 21 May health-panel HTP review is a directional watch, not yet action.

Watching: four-week Japan HTU off-take post-1 April hike (the cleanest cross-market HTP elasticity read of 2026); Russia volume/share trajectory; Ploom durability beyond any pre-hike pull-forward.

KT&G — new coverage signal this issue 🟢

Why it enters now. The international story has crossed the threshold from curiosity to signal. KT&G is posting double-digit growth in both volume and revenue internationally — an exceptional combination in a sector conditioned to price-led, volume-declining maths. Foreign ownership ticked above 51% this fortnight (Capital Research to 7.21%, BlackRock to 6.15% on 9 June), a confidence vote in exactly this overseas momentum. Layered on a KT&G oral-nicotine pilot line (intro issue), the read is a challenger genuinely taking combustible share while the giants are absorbed in the U.S. shelf war.

Watching: whether the double-digit international combustible run is broad-based or concentrated; KT&G’s oral-nicotine commercialisation timeline; whether any major names are the share donor explicitly.

IV. Regulatory Landscape

• 1 June — Belgium. Plain packaging extended to cigars and cigarillos.

• 3–5 June — Global (Warsaw). Global Forum on Nicotine convened under “Prohibition and public health,” sharpening the harm-reduction-versus-prohibition framing behind both the EU review and the France case.

• 4 June — U.S. (FDA/CTP). CTP signaled further PMTA authorizations likely in coming months — the permissive operational posture continues, widening the door that does not belong to the majors alone.

• 4 June — U.S. (Congress). Six Senate Democrats wrote to Altria and Reynolds on contributions and lobbying tied to the enforcement regime — the first organized political pushback against the incumbent-favouring posture.

• 6 June — Global. 2Firsts hosted its Global Novel Tobacco Market Trends Forum on cigarette/next-gen convergence.

• 9 June — South Korea (capital flows). Foreign ownership of KT&G crossed 51% (Capital Research 7.21%; BlackRock 6.15%) — a vote on the overseas momentum flagged above.

• 9–15 June — EU. TPD/TAD call-for-evidence runs to 15 June (novel products, flavours, packaging, digital marketing); adoption targeted Q4 2026 — the most consequential EU tobacco review since 2014.

• ~end-June — France. Council of State due to rule on the merits of the pouch-ban decree; retail/possession ban in force in the interim. The leading indicator for European contagion and for BAT’s largest pouch book.

• June — Indonesia. Nicotine/tar caps and enlarged warnings (extended to e-cigarettes) take effect in Asia’s largest growth-cigarette market.

• June — Vietnam. Health Ministry finalizing a generational ban (born from 2010) plus a comprehensive e-cigarette/HTP prohibition — the second non-UK jurisdiction advancing a UK-style framework.

• Ongoing — U.S. (ITC). Reynolds’ complaint against Chinese distributor Heaven Gifts continues — the enforcement hand of the wish, even as the level-playing-field hand quietly opens the legal door to the most PMTA-fluent Chinese supply chain on earth.

• 12 June — U.S. (FDA/evidentiary). An agency memo surfaced showing the first authorized flavoured vapours did not demonstrate greater cessation benefit than tobacco-flavoured products — undercutting the scientific rationale of the permissive shift just as it is operationalized.

朝三暮四

zhāo sān mù sì

“three in the morning, four at night.”

Twenty-three centuries ago, in the Zhuangzi, a keeper of monkeys announced he would feed his troop three chestnuts each morning and four each night. The monkeys rose in fury. So the keeper reversed the offer — four in the morning, three at night — and the monkeys were delighted. The total, seven, never moved. Zhuangzi’s verdict on the episode is eight characters long:

名實未虧，而喜怒為用

míng shí wèi kuī, ér xǐ nù wéi yòng

“The name and the substance were never diminished — yet joy and anger were set in motion.”

I can think of no cleaner description of the two nicotine prints we just received. PMI walked in carrying the “three-in-the-morning” framing — ZYN is weak in the US — and the market recoiled. BAT walked in carrying “four in the morning” — Velo Plus is strong in the US — and the market leaned in. Opposite emotions, opposite set-ups. And in both cases the keeper handed over the same seven: full-year guidance, reaffirmed. The substance was never diminished. Only the arrangement of the parts changed — and that, by itself, was enough to move the troop between fury and delight.

The mirror

Look at the set-up to each event, because the set-up is where sentiment lives.

Going into PMI’s Q1, the Street was anchored on one thing: ZYN is weak in the US. And it was. On the company’s own numbers, US segment organic net revenue fell 31.6%, with ZYN shipments down 23.5% to 155 million cans on inventory normalization. The pre-print pessimism was, narrowly, right. It was also almost entirely beside the point, because the US weakness was more than covered by everything that wasn’t ZYN-in-America: IQOS at a record 34.9% adjusted share in Japan and the best major launch in its history in Taiwan, Marlboro at a record first-quarter share of 10.7%, VEEV joint-number-one in European closed pods with shipments up 95%. PMI beat at $1.96 adjusted EPS, +16%, and held its currency-neutral guidance.

Now flip the tape. Going into BAT’s first-half pre-close, the Street was anchored on the opposite proposition: Velo Plus is strong in the US. And it was — total Modern Oral volume share up 10.4pts on the launch, strong enough that BAT raised full-year New Category revenue growth from low-double-digit to mid-teens. The pre-print optimism was, narrowly, right. And it too was largely covered by everything outside that slice: glo guided to a low-double-digit revenue decline for the half and the year on Japanese inventory movements and value-segment competition, while combustible volume and value share leaked across the top markets. BAT reaffirmed guidance, holding to the lower end of its algorithm and the £1.3bn buy-back.

So: two companies, two opposite sentiment vectors, two opposite category stories — and the same ending. In both, the category driving the narrative moved exactly the way the narrative said it would. In both, it did not move the enterprise. That is not luck. It is structural, and it’s worth saying precisely.

The 95/5 weighting

Modern oral is roughly 5% of revenue at PMI and about 4.5% at BAT; round both to 5%. A ten percent revenue surprise in modern oral — the category responsible for essentially all the pre-print emotion — is offset by half a percent, in the other direction, across the other 95%. The category is loud precisely because it’s small and fast-growing. Loud and heavy are different things, and the market routinely confuses them. The bull and the bear walked in arguing over a line whose coefficient is 0.05.

What actually holds the line

If passive weighting were the only thing going on, group results would still drift — half a point here, a point there, piling up over time. They drift far less than that, and the reason is that reaffirmed guidance is not a passive average. It’s a target management actively defends, and the lever is the reinvestment line.

When a category or geography over-delivers, the surplus doesn’t fall to the bottom line — it gets recycled as incremental “reinvestment”: cash burn funding loss-making roll-outs, new-market entry, commercial activation. When a category under-delivers, the same lever runs the other way: pull the spend, exit the loss-making corners, let the saved investment backfill the hole. Reinvestment behaves like a shock absorber — sized to the deviation, pointed the opposite way. PMI’s language (”we continue to invest for future growth,” with the explicit option to dial US spend up into the back half) and BAT’s simultaneous upgrade of New Category revenue and proactive streamlining of the glo footprint are the same shock absorber working in both directions at once.

Here’s the tell. After a quarter in which nearly everything that could move did, the only revisions to either guide were items with nothing to do with operating performance: a non-cash fair-value adjustment of PMI’s Canada operations and currency movement, as well as BAT’s translational and transactional exposure to currency movement.

Why the line exists at all

A defended weighted average will be resilient. But resilience of this degree — year after year, through category rotations and geographic reversals — needs a structural source. The source is that this is a rational oligopoly sitting on a volume base in structural decline. When units are shrinking, a price war doesn’t redistribute the profit pool; it destroys it, permanently, for everyone. So the dominant move isn’t to compete the rent away — it’s to coordinate, implicitly and legally and patiently, to keep it. Five mechanisms recur, and each is a reason the algorithm is sturdier than a naïve competitive model would guess.

Geographic carve-outs and orderly exits. Players withdraw from sub-scale, low-margin positions rather than defend them to the last dollar — KT&G stepping back from the US, Imperial pulling out of Japan and US vapour, BAT exiting Egypt, Japan Tobacco’s consolidation into Geneva with domestic capacity cuts and a retreat from low-margin share fights. The pattern is a century old: in 1902 American Tobacco quit the UK and Imperial quit the US, the two carving up the rest of the world and pooling it into British American Tobacco. Territory gets assigned, not contested to the death.

Staggered promotional cycles. Simultaneous discounting is mutually assured destruction, so the majors take turns. One builds volume while the other absorbs price and protects value share, then they swap. After the 1993 “Marlboro Friday” shock — Philip Morris cutting Marlboro ~20% to kill off generics — the US industry settled into decades of predictable, staggered per-pack increases with net price parity preserved. You can see the same rhythm at the brand level right now: BAT’s Lucky Strike discount push and US activation in 2024, PMI’s Basic deep-discount activation in 2025. For the time being, it’s BAT absorbing the volume offensive, not leading it — the pre-close pins US volume softness on heightened competitive activity mainly in deep discount. When one major goes on the volume attack, the other typically firms up pricing to defend value and waits its turn. Unsurprisingly, BAT is rolling out Doral, a deep discount cigarette brand, in selected states in the U.S. to regain market share by participating in the deep discount category, while minimising cannibalisation of existing product portfolio.

Patent peace and cross-licensing. Rather than let IP litigation freeze next-gen roll-outs, PMI and BAT settled their global heated-tobacco and vapour fight in February 2024. The eight-year agreement uses non-monetary provisions to dismiss all ongoing infringement litigation and prevent future claims against current heated tobacco and vapor products. Litigation is a cost to be settled, not a weapon to be maximized — because both sides need the category to scale.

Capital alliances over redundant platform wars. Where entry costs are high, rivals partner rather than duplicate. Altria and JTI stood up Horizon Innovations LLC, a majority-owned joint venture for the U.S. marketing and commercialization of heated tobacco stick products, rather than fund two networks. The Altria–KT&G MOU is the same logic in oral and traditional tobacco: concurrent with KT&G’s acquisition of Another Snus Factory, Altria’s subsidiary acquires an ownership interest in ASF, which owns the LOOP brand internationally, alongside a stated push to optimize operating processes for traditional tobacco products to benefit the competitiveness of each company in their respective home regions.

Regulatory co-opetition. The clearest tell. The majors compete inside the cartel and coordinate against the outside — and the outside, in US vapour, is the illicit Chinese disposable. That coordination just paid off: on May 8 the FDA issued a new policy that both cracked down on illicit e-cigarettes and gave a green light for an expansion of authorized tobacco products. Whatever its public-health framing, the structure of the win is unambiguous — large players like Reynolds American and Altria, with the resources to push applications deep into scientific review, are best positioned to benefit, while smaller importers of Chinese-made disposables (an estimated 80% of US sales) may not qualify and face continued enforcement pressure. Strict regulation isn’t just a headwind the majors endure; in part it’s a moat they help build, one that clears out the low-cost competitors who can’t afford the review process.

None of this is price-and-advertising competition the way a first-year micro course would draw it. It’s a managed system for holding the profit pool roughly flat against a declining volume base — and a managed profit pool is the precondition for an algorithm that shrugs off any single quarter’s weather.

What the symmetry forces you to conclude

Eleven hundred years after Zhuangzi, Su Shi stood in a boat below the Red Cliffs, watched the river and the moon, and wrote the line that finishes our thought:

盈虛者如彼，而卒莫消長也

yíng xū zhě rú bǐ, ér zú mò xiāo zhǎng yě

“That which waxes and wanes is like the moon — yet in the end it neither shrinks nor grows.”

The phases are the category rotations: ZYN cracking, Velo surging, glo fading, IQOS compounding, combustibles bleeding a slow and managed bleed. They are real, and they are loud, and quarter to quarter they are all anyone wants to talk about. But they are phases. The moon itself — the conserved enterprise, the defended algorithm, the profit pool an oligopoly is built to hold flat against a declining volume base — neither shrinks nor grows on their account.

So investors will go on doing what the monkeys did — taking turns over- and under-estimating big tobacco depending on which chestnut is offered first. The thing they almost never price correctly is the seven. The durable edge here is not predicting the phase. It is knowing the moon does not keep its books in phases.

The France pouch ban is a BAT problem, not a PMI problem. France’s classification of nicotine pouches as toxic substances, with criminal penalties for sale and possession, was widely reported as a “ZYN ban.” This framing is geographically backwards. Across continental Europe, VELO — not ZYN — is the dominant modern oral franchise; BAT’s pouch volumes in markets like France, Sweden-adjacent geographies, and Western Europe materially exceed PMI’s footprint outside Scandinavia. With Vietnam now openly considering a generational ban and the EU’s Tobacco Products Directive revision feedback window open through 15 June, the contagion vector is the more interesting question. France is the template. The risk to BAT’s European NGP earnings stream is structural and under-discussed; the risk to PMI is variance in a not-yet-realised expansion plan. These are not the same kind of risk.

Imperial Brands’ acquisition of Black Buffalo - let’s wait and see. The Black Buffalo deal is small in dollar terms but solves a specific portfolio problem: Imperial’s US modern oral position via Zone has been growing share but remains sub-scale, and Black Buffalo gives Imperial an FDA-engagement story in the long-cut and pouch alternative segment with an established, differentiated brand. Read alongside Imperial’s recent exit from US vapor (myblu), the strategic posture is now coherent: concentrate US capital behind modern oral, withdraw from categories where PMTA economics no longer work. The deal does not move group earnings in 2026.

Coordinated industry-wide engineering of multi-tier pricing ladders in response to consumer down-trading. Altria’s strategy is the most visible instance — holding Marlboro pricing growth in the mid-to-high single digits while collapsing Basic pricing to drive triple-digit sales growth, with the April 2026 list-price increase confirming Marlboro as the strategic core and Basic as the deep-discount defensive wedge against Japan Tobacco’s Montego and L. Ducat franchise. But the same pattern recurs across the universe. BAT is pushing Lucky Strike pricing into the low-double-digits at the cost of high-teens volume declines while cutting Pall Mall pricing year-over-year to defend the mainstream tier. Imperial is running Crowns as an aggressive low-end growth vehicle with double-digit pricing increases and positive volume — and is simultaneously letting Sonoma decline by raising its price into a shrinking volume base. Japan Tobacco’s L. Ducat has emerged as the fastest-growing deep-discount cigarette franchise by sales, up nearly half year-over-year, even as Montego contracts.

The ZYN narrative bifurcation continues to sharpen. Within US tobacco-free nicotine pouches — ZYN’s dollar share contracted by more than twelve percentage points year-over-year, settling in the high-50s percent range; Velo Plus reached approximately twenty percent of the pouch sub-category from a low-single-digit base twelve months prior. This is among the fastest share-capture episodes recorded in modern US adult oral nicotine. PMI has dialed back promotional intensity sharply from late-Q1 levels, but ZYN still carries a roughly sixty-to-sixty-five percent price premium to peers — the pricing umbrella that funded the share losses in the first place. Bloomberg’s mid-fortnight piece on ZYN dry-mouth complaints introduces a consumer-narrative dimension that did not exist three months ago. The Wall Street Journal’s parallel piece on ZYN as a MAGA cultural symbol is the same data point read in the opposite emotional register. Both are signals that the brand has entered the phase where its growth is no longer the only story being told about it.

The FDA’s pivot from punitive to permissive is now visible enough that Reuters has named it. The combined effect of the May enforcement guidance de-prioritizing action against unauthorized pouches and vapes with pending PMTAs, the FDA’s environmental assessment posting for nicotine pouches, and the Reynolds-Altria joint pressure for clearer flavored vape pathways is a regulatory posture that benefits the incumbents asymmetrically. The New York Times’ reporting on Reynolds American’s political contribution preceding the policy shift is the corollary commentary. The structural point: the protective value of being first-to-authorize (PMI’s central US thesis) is narrower than it appeared six months ago, because the cost of being un-authorized has fallen.

II. Dynamic Signal Matrix

Philip Morris International (PMI)

Headline. No corporate update in the window; the story is told entirely by scanner data and adjacent narrative. ZYN remains the dominant US pouch brand by share but is no longer the dominant source of category growth — that role has shifted to Velo Plus and, on a smaller base, on! PLUS. Massimo Andolina’s appointment as CFO effective 1 August signals continuity rather than strategic reset. The dbAccess Global Consumer Conference presence on 26 May was a reiteration of the smoke-free transformation arc.

• 🟡 Modern Oral. ZYN’s US dollar share of tobacco-free nicotine pouches contracted on the latest two-week read. Promotional intensity has been dialed back from the late-Q1 peak to mid-teens percent of sales, but the relative price premium to peers remains in the sixty-to-sixty-five percent range, which is what created the share gap in the first place. Volume growth in the latest one-week reading was modestly positive, so the worst of the absolute volume contraction may be behind, but the category is growing faster than ZYN. The Bloomberg dry-mouth narrative reveals the reasons behind this dynamic.

• 🟢 Heated Tobacco. No new operational data in the fortnight; the relevant test is the late-May and June Japan scanner read post-1 April HTU tax hike. The Japanese government panel raising HTP risk questions on 21 May introduces a non-trivial narrative wrinkle — not yet a regulatory action, but the first time in years that Japan’s policy stance on HTPs has moved in a less constructive direction. IQOS Devialet collaboration and TEREA Blossom Pearl positioning remain premium-mix-positive.

• 🟢 Combustibles. Marlboro international momentum from prior quarters remains intact; nothing in the fortnight challenges the established trajectory.

• 🟡 Capital & Regulatory. France pouch ban is a TAM headwind, not an immediate revenue event. CFO transition smooth. dbAccess conference framing reiterated smoke-free strategic anchor.

What I am watching:

• Late-May to mid-June Japan scanner data for the post-tax-hike HTU elasticity read.

• ZYN promotional share trajectory in the next two off-take periods — if it bounces back toward thirty percent of sales, defense mode is confirmed.

• Whether ZYN Ultra launch announcement materializes in the next four weeks following FDA enforcement-guidance softening.

• Andolina’s first earnings call (Q2 2026) for any signal on capital allocation or buyback pacing reset.

Altria (MO)

Headline. Two-track cigarette pricing strategy continues, with Marlboro premium pricing intact and Basic deep-discount actively repriced downward to compete with Montego and other fourth-tier entrants. on! PLUS national rollout is complete (announced 24 March, distribution to wholesalers from mid-March, broader retail from late March). The Nashville-to-Kentucky manufacturing consolidation announced 22 May is a structural cost reset that will take quarters to read in margins.

• 🟡 Combustibles. MO total cigarette dollar sales declined low-to-mid single digits in the latest two-week read, with volumes contracting high single digits and pricing growth holding in the mid-single-digit range. Marlboro lost approximately one hundred basis points of dollar share year-over-year, settling in the low-40s percent range. The intra-portfolio divergence is the story: Marlboro pricing was raised mid-single digits while Basic pricing was cut by mid-single-digit to low-double-digit percentages depending on the comparison window, driving triple-digit Basic dollar sales growth. The April list price increase across MO brands is now flowing through scanner data. The strategic logic is clear — retain premium consumers with Marlboro, capture down-traders with Basic before they defect to Montego or private label.

• 🟢 Modern Oral. on! PLUS reached national distribution by end-1H26. The combined on! franchise (regular plus PLUS) lifted dollar sales by mid-to-high teens in the latest two-week read, but the underlying signal is mixed: regular on! volumes contracted while on! PLUS scaled. The cannibalization-versus-share-capture question is real. Volume share data suggests on! PLUS is taking some category share from Velo Plus given similar product positioning (moist pouch), but the lift in MO’s total category dollar share was modest given the magnitude of distribution expansion — implying meaningful cannibalization of regular on! Distribution-led growth, not yet velocity-led. on! PLUS is selling at a thirty-five percent discount to regular on! and a near-forty percent discount to the broader tobacco-free pouch category — promotional positioning to drive trial.

• 🔴 Vapor. NJOY remains an effective non-event in 2026 with ACE not assumed to return.

• 🟢 Capital & Regulatory. FDA enforcement-guidance shift is slightly net-positive for MO since on! and on! PLUS are already authorized. Nashville closure consolidates smokeless and pouch manufacturing into a single 270,000-square-foot facility. FY26 EPS guidance reaffirmation from Q1 stands.

What I am watching:

• on! PLUS trial-to-repeat conversion read in the next two scanner periods — if dollar share fails to expand sequentially despite full distribution, cannibalization is the dominant dynamic.

• Whether the Marlboro April list-price flow-through accelerates the dollar share decline or holds the premium positioning.

• Basic share trajectory — if it crosses two percent and continues, MO is engineering a genuine fourth-tier defense.

• Nashville-to-Kentucky transition cost commentary at Q2 earnings.

British American Tobacco (BAT)

Headline. The fortnight’s most significant single development for BAT was external and structural: the French pouch ban. Velo Plus continues to gain US share at a pace without recent precedent, but the European pouch franchise — much larger in revenue terms than the US position — now faces direct regulatory contagion risk. BAT Malaysia posted its first-ever quarterly loss; BAT Bangladesh reported Q1 profit down approximately one-third. The Capital Markets Day is scheduled for 29–30 September in Winston-Salem, not in May.

• 🟢 Modern Oral (US). Velo Plus US dollar share within the smokeless category (including traditional and modern oral) reached the double-digit threshold in the latest two-week scanner read, having compounded from a near-zero base twelve months prior. Volume growth was in the low-triple-digit range year-over-year. Distribution expansion via TDP and ACV is both driving and being driven by velocity — both engines are firing. Pricing continues to improve (up ~30% yoy), but remains at a significant discount to ZYN.

• 🔴 Modern Oral (Europe). This is the new tail risk. VELO is the leading modern oral brand across continental European markets. The French ban is the first instance of a major European market criminalizing the category. Combined with WHO’s first global pouch report on 17 May (regulatory warning tone) and the EU TPD revision now in formal consultation, the structural read is that BAT’s European NGP growth assumption set requires reassessment.

• 🟡 Combustibles. US Newport and Camel volumes contracted low-double-digits in the latest two-week read; Newport dollar sales declined mid-to-high single digits. BAT Bangladesh Q1 cigarette sales down approximately fourteen percent with profit down roughly one-third. BAT Malaysia first-ever quarterly loss. New Zealand structural pressure remains the principal earnings drag in the legacy combustibles franchise. The geographic mix of bad news is now broad enough to be a pattern, not a one-off.

• 🟡 Vapor. VUSE US dollar sales grew high-single-digits in the latest two-week read with continued category-share gains; the underlying point is that VUSE is consolidating a shrinking legal e-cigarette pie, not expanding it. Disposable categories continue to be pressured by enforcement and bans. Germany announced disposable vape ban legislation in early May.

• 🟡 Heated Tobacco. Glo continues to lose Japan HTU share to Ploom; the trajectory established in prior quarters has not been arrested.

• 🟡 Capital & Regulatory. BAT-Altria joint advocacy at the FDA on flavored vape pathways (announced 27 May) is the formal manifestation of the regulatory pivot story. UK criminal case on North Korea sanctions dismissed earlier in May — net regulatory positive. Pre-CMD preparatory commentary will accelerate from mid-summer.

What I am watching:

• Velo Plus pricing posture inflection — as BAT continues to improve price/mix of Velo Plus, the franchise margin debate shall begin. (i.e. Velo Plus pricing is positive, but it represents a negative mix to BAT’s broader smokeless category, due to lower pricing than traditional oral products)

• French ban implementation specifics — phased enforcement versus immediate withdrawal materially affects the 2H26 European NGP revenue impact.

• Whether any second EU member state announces a France-style pouch action within four weeks; if Belgium, Netherlands, or Italy follows, contagion is confirmed.

• BAT’s framing of European modern oral strategy at the September CMD — what they say about France will be a leading indicator.

Imperial Brands (IMB)

Headline. Two material moves in the fortnight: the Black Buffalo acquisition (27 May) and the launch of the blu MAX 6000 vape system (19 May). Both fit the strategic posture established at the H1 print on 12 May — narrow the US footprint to where Imperial can win, concentrate capital behind modern oral, exit categories where PMTA economics have broken. The Capgemini partnership and Australia resizing announced at H1 remain the operational backdrop.

• 🟢 Modern Oral. Black Buffalo is the most consequential US modern oral signal Imperial has produced in years. The brand operates in tobacco-alternative long-cut and pouch formats with a differentiated positioning toward traditional moist smokeless converters — a different consumer than the ZYN/on! mainstream. Imperial does not solve sub-scale by buying a sub-scale brand, but it does add a differentiated wedge alongside Zone. Zone US itself continues to grow shipment volumes above forty percent with national distribution now in approximately 109,000 stores.

• 🟡 Combustibles. Imperial’s US combustibles aggregate dollar sales declined low-single-digits in the latest two-week read with volumes contracting low-double-digits; pricing held mid-to-high single digits. Crowns continues to gain share among the deep-discount cohort. Sonoma continues to contract. UK and Spain pricing flow-through in H2 remains the operational lever to close the H1-to-FY guidance gap.

• 🟢 Vapor. blu MAX 6000 launch (19 May) extends the European blu portfolio into the larger e-liquid format that has been driving disposable share globally. With myblu US exited and blu remaining the principal European vapor brand, the geographic posture is now coherent.

• 🟢 Heated Tobacco. Pulze 3.0 share gains continue across footprint markets; iD heated stick range and iSenzia tea-based offering provide product extension. Still small in absolute revenue terms.

• 🟢 Capital & Regulatory. Black Buffalo acquisition. £1.45bn FY26 buyback on track per H1. UK Tobacco and Vapes Act phased implementation guidance now live for retailers. Highest UK earnings exposure of the majors makes this the most structurally exposed name to UK generational ban contagion if Canada, Vietnam, or others follow.

What I am watching:

• Black Buffalo integration timing and any disclosed revenue contribution at H2 print.

• Whether Zone US pricing remains positive as Velo Plus continues to take share around it.

• H2 AOP acceleration delivery — the H1 base implies meaningful sequential lift required to hit the 3–5 percent FY guidance.

• Australia volume stabilization post-resizing; the largest single H1 drag.

Japan Tobacco (JT)

Headline. No corporate earnings update in the fortnight (Q1 reported 8 May, prior to this window). The relevant signal is regulatory and consumer-data adjacent: the Japanese government panel raising HTP risk questions on 21 May is the first sign in years that Japan’s domestic regulatory posture on heated products may shift in a less constructive direction. The post-tax-hike scanner read in Japan remains the most consequential elasticity test of 2026 for the entire HTP category.

• 🟡 Heated Tobacco. The 21 May Japan health panel review on HTP carcinogenic content, paired with the EU’s TPD consultation opening, represents the first coordinated regulatory tightening signal on the HTP category in several years. Not yet action; not yet pricing. But the directional shift matters. Japan domestic HTU share for Ploom was holding around the mid-15s percent range entering Q2 per company disclosure on 8 May.

• 🟢 Combustibles (EM). Continued share gains in Bangladesh, Philippines, and the Russia franchise pricing offset. JT’s emerging-markets franchise remains the principal growth engine in 2026; nothing in the fortnight challenges that.

• 🟡 Modern Oral. Not a strategic priority for JT; no developments.

• 🟡 Capital & Regulatory. Japan domestic HTU tax hike (1 April) now fully implemented; mid-to-late-May retail scanner read pending. JTI Macdonald Canadian Plan payable structure remains a known cash drag.

What I am watching:

• Japan HTU category off-take data for the four-week period post-1 April price hike. This is the first elasticity read across the major HTP markets at meaningful price increase magnitude.

• Whether the Japanese health panel review translates into proposed regulatory action within the next quarter.

• Ploom AURA traction in newly-entered markets (now in roughly 25 markets globally per 8 May disclosure).

• Russia volume trajectory — the down-trading shift JT flagged at Q1 is the structural earnings risk in EM.

III. Regulatory Landscape

Chronological, fortnight ending 28 May 2026. The dominant theme is European modern oral risk crystallizing alongside continued FDA permissive shift in the US — directional asymmetry by geography.

• 17 May — Global. WHO published its first global report on nicotine pouches, framing the category as requiring regulatory caution. Sets the discursive backdrop for subsequent member-state actions.

• 18 May — Malaysia. High Court ruled the 2023 liquid nicotine Poisons List exemption was “irrational” and unlawful. Victory for public health groups; regulatory pressure on vape category to intensify.

• 20 May — US (FDA). FDA targeting “disguised” nicotine products at retail (pouches resembling candy and everyday products). Enforcement against the un-authorized fringe, not against the authorized incumbents — consistent with the broader permissive-incumbent posture.

• 20 May — US. New York Times published investigation into Reynolds American’s $5 million donation to a Trump-backed PAC preceding the FDA flavored-vape policy shift.

• 21 May — Japan. Government panel raised questions on HTP carcinogenic content. First negative-direction signal on Japan HTP posture in several years.

• 21 May — EU. European Commission opened formal “Call for Evidence” on revision of the Tobacco Products Directive and Tobacco Advertising Directive. Feedback window through 15 June. Most important EU tobacco regulatory consultation since 2014.

• 21 May — US (FDA). Warning letters issued to retailers over unauthorized pouches resembling candy.

• 22 May — US (FDA). FDA posted environmental assessment for nicotine pouches — procedural step that may influence future PMTA review timelines.

• 22 May — Bloomberg / Consumer narrative. ZYN dry-mouth complaints surfaced in long-form Bloomberg piece. Not regulatory, but consumer-narrative-shaping.

• 25 May — France. France classified nicotine pouches as toxic substances. Use, possession, purchase, and sale criminalized. Penalties up to five years’ imprisonment and €400,000 fines. The single most material regulatory development of the fortnight for European modern oral exposure. Direct hit to BAT VELO European volumes; template risk to Belgium, Netherlands, Italy, Spain.

• 25 May — South Korea. Rise in DIY “Kimjang” vape liquids following new tobacco tax rules. Demand displacement pattern that may foreshadow similar dynamics in other markets implementing aggressive vape tax structures.

• 26 May — Vietnam. Vietnam considering generational tobacco ban; would also prohibit e-cigarettes, HTPs, and next-gen nicotine. Second non-UK jurisdiction publicly considering UK-style framework within thirty days.

• 26 May — US (Tennessee). State expanded vapor product definitions for tax and regulatory coverage.

• 27 May — US (FDA). BAT and Altria jointly pressed FDA for clearer pathway on flavored vape approvals. Formal manifestation of the incumbent-coordinated regulatory engagement now visible.

• 27 May — Canada. Third legislative review of the 2018 Tobacco and Vaping Products Act concluded, highlighting enforcement gaps amid expanding illicit market. Sets predicate for tighter compliance regime.

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1. Imperial H1: The Guidance Gap Is Real

   Imperial Brands H1 2026 results (12 May)

   Imperial reported H1 2026 AOP growth of 0.6% at constant FX against a full-year guidance of 3–5%. Management identifies more than £50m of identifiable one-offs concentrated in H1 — US MMC tariffs, Australian volume acceleration, Zone US promotional timing, and myblu US exit costs. The math that follows is that H2 AOP must grow approximately 5–9% at constant FX to land within the guidance midpoint. The reaffirmation is high-conviction; the path requires UK and Spain pricing flow-through, on! and Zone NGP runway, and Australia stabilisation post-resizing — each of which is plausible, but the back-half loading is the largest of any major reporting this cycle. Imperial separately took the £312m Delaware settlement (£150m paid in H1) and announced a structural exit from US vapour (myblu).

2. JT’s +19.2% AOP at Constant FX — Reading Underneath

   JT Q1 2026 results (8 May)

   JT reported tobacco AOP +19.2% at constant FX, driven by core revenue +10.1% and operating leverage. The constant-FX framing already strips out hyperinflationary distortions (IAS 29's application excludes Iran, Myanmar, and Turkey from constant-FX comparisons). The remaining pricing power is genuine — but bundles temporary supports: Japan demand pull-forward ahead of April 1 HTU tax hike, and Russian pricing offsetting volume decline. Stripping those H1 supports, underlying recurring pricing in core markets is plausibly +5–7% at constant FX — broadly in line with PMI and Imperial when converted to USD. The optical gap to peers narrows materially once the H1 supports the anniversary. Management guided that H2 will absorb more promotional investment.

3. FDA Posture Shifts From Punitive to Permissive

   FDA enforcement guidance (May 9); Makary resignation (May 12); Tobacco Reporter and Tobacco Insider coverage

   Three signals in 14 days. First, the May 9 enforcement guidance deprioritises action against pouches and e-vapour with pending PMTAs. Second, the Tobacco Centre disclosed plans for faster supplemental PMTA review processing. Third, FDA Commissioner Makary resigned on May 12, as the administration focused on accelerating the nicotine pathway. The combination materially erodes the protective value of being first-to-authorisation in the US nicotine. PMI’s position — the principal US authorised-pouch player (ZYN; on! PLUS authorised in December 2025) — has a narrower defensive moat than it did six months ago. BAT (Velo subset awaiting decisions), Turning Point (FRE), and other PMTA-pending issuers gain optionality. The repricing has not yet visibly transmitted into shelf-space allocation; the test runs through Q3 NielsenIQ data.

4. ZYN US: Volume Recovery Is Not Share Recovery

   NielsenIQ data through May 2

   Per NielsenIQ data through May 2, ZYN pouch category dollar share continued to fall in the latest 2-week period, while Velo Plus continued to gain dollar share with strong volume growth and positive pricing that became more evident recently. The pouch category itself grew dollar sales by double-digit per cent y/y. ZYN volumes returned to positive growth in the latest 1-week but the structural read is unambiguous: the category is growing faster than ZYN, and Velo Plus is taking the difference. PMI’s premium pricing relative to the pouch category is providing margin protection — but the trajectory of relative share challenges the “ZYN inevitability” framing that anchored the 2024 thesis. PMI reduced ZYN promotional intensity sharply.

II. Dynamic Signal Matrix

Philip Morris International

FDA reauthorised IQOS as MRTP (April 29), reaffirming the harm-reduction position. TEREA Blossom Pearl launched in Japan (May 11), and ZYN by IQOS expanded across Tokyo (May 11) via IQOS Shops and Lawson. The competitive position is intact — but the regulatory backdrop has shifted in a way that moderately erodes the first-mover authorisation advantage that has anchored the US pouch thesis.

🟢Combustibles

No new operational data, but the trajectory established in Q1 2026 (Marlboro record international Q1 share at 10.7%; international pricing well ahead of mid-term framework) remains the relevant anchor.

🟡Modern Oral

NielsenIQ data through May 2 shows ZYN pouch category dollar share continued to fall. PM has reduced ZYN promotional activity. ZYN still sells at significant premium to other pouch brands. ZYN Ultra still “to be rolled out soon” following FDA enforcement guidance.

🟢Vapor

VEEV global momentum continues from Q1 print. No specific updates this period.

🟢Heated Tobacco

TEREA Blossom Pearl launched May 11. April 1 retail price increase in Japan — first material visibility through Q2 earnings announcement by PMI and JT.

🟡Capital & Regulatory

FDA reauthorized IQOS as MRTP on April 29 — reaffirming substantial harm-reduction position. The May 9 FDA enforcement guidance for pouches and the May 12 Makary resignation are net negatives for PMI relative to peers, because they narrow the protective value of being first-to-authorization. PMI does not gain materially from a permissive shift (it is already authorized); peers gain optionality.

What I am watching

• Japan HTU consumption response to the April 1 price hike — Q2 earnings announcement

• ZYN Ultra US launch announcement

• Whether ZYN promotional intensity rises in H2 to defend share against Velo Plus

Altria

on! PLUS has reached national rollout. The product’s differentiated positioning (moist, competing directly with Velo Plus) is operating in a category where Velo Plus is taking share at unprecedented speed.

🟢Combustible

Per NielsenIQ through May 2: downtrading continued, as Marlboro continued to lose market share, while Basic became one of the fastest growing deep discount cigarette brands in the U.S.

🟡Modern Oral

on! PLUS continued to gain dollar share amid national rollout and competitive pricing. It is a direct competitor to VELO Plus as on! PLUS is also a moist product. Caution: given the scale of Altria’s distribution footprint, it is expensive to maintain the shelf space if sales velocity (imagine it as retail sales value per shelf space occupied) falls short of management’s expectation. To monitor repeat purchase post-trial and distribution push.

🔴Vapor

No NJOY updates. NJOY ACE assumed not to return in 2026.

🟡Capital & Regulatory

The May 9 FDA enforcement guidance is neutral for Altria — on! and on! PLUS are already authorized.

What I am watching

• on! PLUS share trajectory now that national rollout is complete — trial-to-repeat conversion is the test

• Marlboro premium-share defense as deep-discount continues to take volume

British American Tobacco

Dismissal of the U.S. criminal case alleging North Korea sanctions violations; Velo Plus continues to take pouch share at a pace that has now compressed ZYN's relative position.

🟡Combustibles

BAT’s U.S. market share continued to decline. It has been losing market share to Marlboro in the premium category. After initial success of Lucky Strike in the discount category, it is now facing growing competitions from all the major players in the discount category as everyone acts upon the reality of downtrading. It is worth noting that BAT has strategically increased the pricing of Lucky Strike, perhaps to create price gap to Doral, a deep discount cigarette brand that BAT is marketing right now. I expect Doral’s price positioning to be similar to Basic or any other deep discount brands. To minimise cannibalisation, I also expect BAT to launch Doral on a limited scale initially, in retail outlets over-indexed to the discount category, and to closely monitor the sourcing of customers.

Outside of the U.S., the cigarette pricing environment seems to be quite positive globally, as seen in recent earnings release by competitors. Australia could be an interesting market to follow this year, as politicians are debating whether to cut tobacco excise tax to reduce illicit trade. If it doesn’t happen any time soon, Australia’s legal cigarette market will cease to exist in the foreseeable future, so does the excise tax revenue collected by the government, while the Australia government will continue to bear the healthcare expenses resulting from cigarette smoking (100% illicit, no tax paid).

🟢Modern Oral

Velo Plus pouch continued to gain dollar share — the pace of expansion is unprecedented. It is worth noting that as PMI reduced promotional intensity, BAT also increased pricing of Velo Plus to the highest level I have ever seen without ceding market share. If it can withstand the competitive pressure from on! PLUS, it will create a virtuous cycle to justify more shelf space and lead to further market share expansion.

🟡Vapor

Vuse continued to grow in the U.S. but market share remained stable.

🔴Heated Tobacco

PMI Q1 Japan IQOS share was unchanged in the period despite no major launch in the prior 12 months. JT Ploom share continues to gain (+3.1pp y/y to 15.8%). The arithmetic implies the share BAT Glo lost was taken largely by JT, not by PMI. Glo Hilo launch did not arrest the trend in the Japan share data through May.

🟢Capital & Regulatory

Delaware Supreme Court settlement of $420m (£312m) recognized in H1 with £150m received from Imperial Brands. The May 9 FDA enforcement guidance is positive for BAT — VUSE and VELO are not yet authorized by FDA, but they have submitted PMTA respectively.

What I am watching

• Velo Plus and Velo 2.0 US strategy — how BAT acts upon the May 9 FDA enforcement guidance

• BAT Japan heated-product competitive response strategy — the JT share-take is now persistent

• European VEEV–VUSE competitive read at PMI’s next print

Imperial Brands

H1 2026 prints AOP growth of 0.6% at constant FX against a full-year guidance of 3–5%. Management identifies more than £50m of one-offs concentrated in H1 — US MMC tariffs, acceleration of Australian volume decline, Zone US promotional timing, and the myblu US exit. The arithmetic that follows is that H2 AOP must grow approximately 5–9% at constant FX to land within guidance. The print is reaffirmation in form; in substance, it is a high-conviction operational call on the back half.

🟡Combustibles

Tobacco net revenue +1.5% at constant FX; tobacco volume −1.5%. Price/mix +3.0% across the group, supported by Europe (+6.0%) and the US (+5.7%) and held back by AAACE (−0.7%). Aggregate share across the five priority markets declined 16bps. Germany delivered share growth (+5bps) and is now actively contributing rather than dragging. Australia is the largest single drag — volume decline accelerated to approximately 50%; share fell 55bps. Management has resized the cost base in response, which means AOP impact in H2 should stabilize rather than deepen.

🟡Modern Oral

Zone US grew shipment volume above 40% with national distribution now in 109,000 stores; share at 2.8% with positive pricing. However, Q1 promotional activity over the year-end was more successful than anticipated, reducing US NGP net revenue by approximately £13m in H1 (note: likely from rebate to distributors and retailers). It is a happy problem to have, ONLY IF repeat purchase post-trial is also more successful than anticipated. In Europe, Zone UK reached 3% share within independent channels; Skruf delivered new pouch formats in Sweden and Norway. The contribution remains too small to move group earnings, but the share trajectory is intact.

🔴Vapor

Imperial announced the transition out of US vapor (myblu), reclassifying £7m of associated costs as adjusting items. The decision is consistent with the stated strategic focus on modern oral in the US and reflects management’s judgment that PMTA approval timing has become incompatible with the legacy product economics. In Europe, blu kit and pod-based formats continue to take share — share up 130bps; double-digit positions in UK, France, Spain.

🟡Heated Tobacco

Pulze 3.0 continues to gain Heated Products share across all footprint markets. iD heated stick range refreshed, and tea-based iSenzia is contributing. Share gains were particularly meaningful in Italy, Greece, Poland, Czech Republic, and Slovakia. Still early-stage in absolute revenue terms.

🟡Capital & Regulatory

Delaware Supreme Court settlement of $420m (£312m) recognized in H1 with £150m paid; £162m payable in roughly equal installments over three years. Together with the 2030 Strategy programme charges (£210m), the cash drag is real. £1.45bn FY26 buyback on track; interim dividend +4.0%; 12-month free cash flow of £2.6bn. Net debt-to-EBITDA at 2.4x on a 12-month basis, with year-end target at the lower end of 2.0–2.5x.

What I am watching

• H2 AOP cadence — UK and Spain pricing flow-through is the largest single lever to close the guidance gap

• Whether Zone US can hold positive pricing and volume while competitive intensity of the category continues to increase

• UK Tobacco and Vapes Act implementation specifics; Imperial has the highest UK earnings exposure of the majors

• Australia stabilization — track potential tobacco excise tax cut

Japan Tobacco

Q1 2026 tobacco AOP grew 19.2% at constant FX on core revenue +10.1%. The headline pricing strength is genuine on a like-for-like basis: JT applies IAS 29 to Iran, Myanmar, and Turkey, and the constant-FX framing already excludes those hyperinflationary distortions. What remains is real pricing power — but bundled with temporary supports: a pull-forward of Japanese demand ahead of the April 1 HTU tax hike, and Russian pricing offsetting volume decline. Stripping those, underlying recurring pricing in core markets is plausibly +5–7% at constant FX, in line with PMI and Imperial in USD terms.

🟢Combustibles

Combustibles volume −0.1% globally with strong share momentum across markets. Asia volume +3.8% in combustibles, with the Philippines (+6.5%) and Bangladesh adding share to Camel and Winston. Western Europe combustibles volume −3.5% on UK weakness (−13.4% on industry contraction plus illicit). EMA volume −0.4%: Russia (−4.3%) and structural pressure from accelerated heated-product migration and post-excise affordability. Across the board, pricing is strong, benefiting from favourable FX and strong nominal growth of personal income in certain markets, such as mid-teens percent growth in Russia. (note: Japan Tobacco is the most exposed to Russia among major tobacco companies) Russia is experiencing a very unique dynamic, combining three factors that seldom occur together: i) high inflation rate and nominal growth of personal income, ii) improving economy and purchasing power due to high oil price, iii) exchange rate strengthening (~16% versus JPY and ~9% versus USD in the last 12 months).

🟡Modern Oral

Limited global presence in pouches; not a current driver. JT did not refer to pouches as a strategic priority in the Q1 call.

🟢Heated Tobacco

Total RRP volume +44.2%; Heated Products (Ploom) +57.0%. Ploom AURA is now in 25 markets as of May 2026 (29 markets for Ploom overall). Japan Heated Products category share reached 15.8% (+3.1pp y/y) — but the Q1 quarter-on-quarter reading is essentially flat versus Q4 2025 (15.7%), reflecting the temporary pull-forward demand benefiting competitors disproportionately in the final pre-tax-hike weeks. Taiwan launch (October 2025) delivered the strongest initial heated-product share ever recorded for Ploom — approximately 25% category share within Q1. Lyo (heated nicotine sticks, no tobacco leaf) launched in Poland and Italy.

🟡Capital & Regulatory

Profit +27.3% on operating leverage and reduced intangibles amortization. Management indicated H1 promotional spend phasing means H2 will absorb more investment. Middle East exposure: Iran reclassification under IFRS following the rapid deterioration was completed; direct impact described as not material at present. JTI Macdonald payable portion under the Canadian Plan remains a structural cash drag (70–85% of JTI-Mac net income after tax) — already separated in the Canada Adjustment framework.

What I am watching

• Japan retail data post April 1 HTU tax hike

• Russia volume trajectory — whether JT can stabilize share within the down-trading shift

• Taiwan Ploom share durability beyond launch curve

• H2 investment phasing — promotional cost flow-through will narrow optics

III. Regulatory landscape

Apr 29 UK Tobacco and Vapes Act 2026 received Royal Assent; generational ban for those born after 2008 enacted.

Apr 29 PMI announced FDA reauthorization of IQOS as a Modified Risk Tobacco Product.

May 5 Belgium approved vape flavor ban (effective September 2028) — tobacco-flavored and unflavored only.

May 6 Argentina issued Resolution 549/2026 — transition from prohibition to regulation of vapes, heated tobacco, pouches.

May 6 South Korea moves against synthetic-nicotine regulatory gap; three companies face Tobacco Business Act probe.

May 7 FDA launched Elsa 4.0 — AI-supported review tool — and completed HALO data platform consolidation.

May 7 Türkiye recorded 4,163 e-cigarette smuggling raids over five years; seizures of TRY 1.84 billion.

May 8 Cyprus retailers warned EU-driven excise could push pack prices from €4.50–5 to €8–8.50.

May 9 FDA published enforcement guidance de-prioritizing action against unauthorized nicotine pouches and e-cigarettes with pending PMTAs.

May 9 FDA Tobacco Center disclosed plans for faster review of certain supplemental PMTAs.

May 9 German Environment Minister announced plan to ban disposable e-cigarettes; legislation to follow this year.

May 9 Trump signed off on plan to remove FDA Commissioner Marty Makary (WSJ).

May 11 Imperial Brands published retailer guidance on UK Tobacco and Vapes Act phased implementation.

May 11 Indonesia stepping up vape surveillance — focus on illegal products lacking excise stamps.

May 11 Finland’s Kokoomus party announced plan for generational tobacco ban; vote at June party congress.

May 12 FDA Commissioner Marty Makary resigned; Diamantas named interim head.

May 12 FDA filed MRTP renewal applications for two 22nd Century reduced-nicotine combustible products.

May 12 U.S. criminal case against BAT for alleged North Korea sanctions violations (2007–2017) dismissed.

May 12 Texas Supreme Court ruled VELO pouches taxable as tobacco; nicotine derived from tobacco meets statutory criteria.

May 12 Imperial Brands withdrew myblu from the US; products not expected to return; cost of £7m recognized as adjusting item.

Altria Q1 2026 earnings

MO Q1 2026 earnings release and call (April 30)

Adjusted EPS of $1.32 came in 6% above consensus on multiple, partially offsetting drivers. Smokeable adjusted OCI grew 6.3% with margins expanding 70bps to 65.1%. on! shipment volumes grew 17.6%, but on!’s share within the pouch category fell 4.2pp as the category itself accelerated 9.1pp to 58.1% of total oral tobacco. Marlboro lost 1.4pp of total category share but held its premium share at 59.5%. Industry cigarette decline rate of –5.0% has moderated meaningfully from prior-year comparisons.

PMI Q1 2026 earnings

PMI Q1 2026 results (April 22) and Recital coverage

PMI’s full-year currency-neutral guidance was reaffirmed despite a –30.8% ZYN US shipment quarter. The market’s roughly 8% rally on April 22 was not relief on ZYN — there was no operational ZYN news to be relieved about. It was a reweighting from “ZYN-dependent growth story” to “diversified smoke-free leader whose algorithm absorbs ZYN disappointments.” The implication that travels furthest is the symmetric one: if PMI’s portfolio absorbed a sharp ZYN US setback without bending FY guidance, BAT’s portfolio is equally capable of absorbing the visible Velo Plus US win without changing FY guidance. The portfolio lens cuts both ways.

ZYN US: Reading Offtake Against Capacity, Not Against Prior Period

NielsenIQ data; Owensboro Times; PMI commentary

ZYN US offtake returned to growth in the latest 4-week period after several months of decline. The instinct is to read this as recovery. The capacity context says otherwise. Owensboro’s annualised footprint is approximately 900 million cans and is now scaling back from 24/7 to a 5-day workweek starting July. Aurora’s $600 million plant is still ramping. Q1 retail offtake is well below the existing footprint’s capability. The directional improvement is real but it is not yet evidence that demand has caught up with the supply that was built. ZYN Ultra remains “in coming months.”

Generational-Ban Policy Becomes a Template

Tobacco Reporter; 2Firsts; Tobacco Insider (April 22–28)

The UK smoke-free generation bill cleared Parliament on April 22. Canada announced on April 28 it is studying an identical UK-style ban as part of its 2035 smoke reduction goal. Portugal and several EU member states have submitted objections in Brussels regarding the UK’s approach, which suggests the Commission is now actively considering the framework’s compatibility with single-market principles. The combinatorics matter: if the UK proves implementable and Canada follows, the framework becomes a template. Imperial is the most exposed major.

II. Dynamic Signal Matrix

Philip Morris International

Multi-category portfolio absorbed an anticipated ZYN US setback without bending the FY algorithm. The market repriced this on April 22 with an outsized rally that says more about modern market structure than about Q1 itself.

🟢Combustibles

International pricing of +8.5% in Q1 ran ahead of management’s own mid-term framework. Marlboro hit a record Q1 international share of 10.7%. Organic gross profit grew on a constant-currency basis despite a tough volume comparison. The cash engine that funds the smoke-free transition is in better shape than the consensus narrative gives it credit for.

🟡Modern Oral

ZYN US returned to positive offtake in the latest 4-week NielsenIQ read after several months of decline, but this should be read against capacity rather than against the prior month. Owensboro is scaling back from 24/7 to 24/5 starting July; Aurora is still ramping. The supply footprint that was built for 2024-style demand is now visibly oversized. ZYN Ultra remains “in coming months.” ZYN by IQOS expands across Tokyo from 11 May.

🟢Vapor

VEEV crossed one billion equivalent units in a single quarter for the first time. European in-market volumes nearly doubled. VEEV reached joint number-one in closed-pod share in Europe in Q4 2025. This is a genuine third leg now, and it received almost no airtime on the Q1 call.

🟡Heated Tobacco

IQOS in-market sales grew double digits with Taiwan crossing 6% national share three months after launch. Japan reached 34.9% national share. The April 1 retail price increase to absorb the largest excise step in HTU history is the most consequential 2026 test PMI faces — April retail data will not be visible until late May. TEREA Blossom Pearl launches in Japan on 11 May.

🟢Capital & Regulatory

Full-year currency-neutral guidance reaffirmed at +5–7% organic revenue, +7–9% organic OI, +7.5–9.5% organic EPS. Dollar EPS guide ticked down marginally only because the expected FX tailwind was lowered. The fact that the algorithm absorbed a –30.8% ZYN US shipment quarter without breaking is the single most important read of the print.

What I am watching

• Japan HTU consumption response to the April 1 price hike

• ZYN Ultra launch timing and competitive response

• Whether VEEV’s European unit economics translate to operating margin contribution by H2

Altria

Q1 delivered a 7.3% adjusted EPS gain on a coalition of partial drivers, not a single thesis. Smokeable cash held up better than feared; on! grew shipments while losing share within a faster-growing pouch category; Marlboro continued to give up category share but defended premium. The temptation to read this as either “smoke-free is working” or “combustibles are dying” understates both.

🟢Combustible

Smokeable adjusted OCI grew 6.3% with margins expanding 70bps to 65.1%, helped by 2026 refunds of taxes and duties on imported cigarettes, lower litigation charges, and pricing. Adjusted segment cigarette decline rate of –4.0% was materially better than the –12.0% prior-year comparison; the industry adjusted decline rate of –5.0% has moderated meaningfully. The combustible cash engine is doing more work than the broader narrative assumes.

🟡Modern Oral

on! shipment volume grew 17.6% to 46.2 million cans. But on!’s retail share within the pouch category fell 4.2pp to 13.4% as the category itself accelerated — the pouch share of total oral tobacco grew 9.1pp y/y to 58.1%. on! PLUS reached approximately 100,000 retail stores nationwide. Helix delivered solid results in absolute terms while losing relative position in the fastest-growing segment.

🔴Vapor

NJOY shipment activity remains absent following the ITC orders. Guidance assumes NJOY ACE does not return to the marketplace in 2026.

🟢Capital & Regulatory

$1.78 billion dividends paid in the quarter; $280 million in share repurchases (~4.5 million shares at $62.33 avg); $720 million remaining authorization through year-end. FY26 EPS guide of $5.56–$5.72 reaffirmed, with management explicitly rebalancing the H1/H2 cadence so that the back half does less of the work. Debt-to-EBITDA at 1.9x.

What I am watching

• Whether on! PLUS national rollout converts trial into share within the pouch category, not just absolute can growth

• Trajectory of Marlboro’s premium-share defense as deep-discount pressure continues

• Federal enforcement engagement on illicit disposables — Altria management called this out specifically

British American Tobacco

The visible US story is that Velo continues to take pouch share and Vuse is gaining within a contracting legal vapor pie. The less visible story is what is happening to BAT outside the US — VEEV displacing VUSE in Europe, Ploom continuing to take heated-tobacco share from Glo in Japan, and the New Zealand business contracting nearly 30%. The portfolio lens matters here.

🔴Combustibles

New Zealand revenue fell approximately 29% in 2025 with industry estimates putting illicit consumption at 27.2%. The structural pattern — high excise, widening illicit gap, accelerating volume decline — is now visible in multiple BAT markets.

🟢Modern Oral

Velo Plus continues to take pouch volume share in the US with sustained triple-digit growth, while pricing remains negative as BAT funds the share contest. The interesting question is what happens to Velo’s pricing posture once it crosses 10% pouch volume share, which on the current trajectory is likely by mid-summer. Velo confirmed France compliance amid the EU regulatory divergence.

🟡Vapor

In the US, Vuse continues to gain share within a contracting legal e-vapor category — the category is shrinking in dollar terms but Vuse is gaining within the smaller pie, the pattern of post-MSA tobacco consolidation. In Europe, VEEV is now displacing VUSE in closed-pod share, a competitive transfer most BAT-focused notes do not yet emphasize.

🔴Heated Tobacco

PMI’s Japan IQOS share was unchanged in Q1 despite no major product launch in the prior 12 months — and yet BAT continued to lose share. The Glo Hilo launch did not arrest the trend. The most natural reading is that Japan Tobacco’s Ploom is taking share from BAT, not from PMI. This is a competitive read that the Q1 PMI narrative did not surface explicitly.

What I am watching

• Pricing and market share movement of Velo Plus in reaction to On! Plus launch

• European VEEV–VUSE competitive read at PMI’s next print

• 1H trading update / framing of Japan HTU competitive position

Imperial Brands

Among the global majors, IMB is most exposed to the policy risks that define this fortnight: UK domicile in a UK that just passed generational-ban legislation, large Australia and New Zealand businesses where illicit pressure is structural, and a smoke-free portfolio that is small in absolute terms. The capital return story remains the dominant cash thesis.

🟡Combustibles

Five-priority-market focus continues. Malibu launched as a new cigarette offering in March. Modest aggregate share reduction expected across top five markets in H1 per the April trading update. Australia and New Zealand pressure remains structural and is likely to intensify with further excise.

🟡Modern Oral

Zone in the US continued to grow off a small base in the latest NielsenIQ read with positive pricing — the only major pouch brand running positive pricing in the period. But the contribution remains too small to move group earnings, and IMB has acknowledged that elevated promotional activity is compressing US NGP net revenue despite holding volume share.

🔴Vapor

blu remains in structural decline; small base provides limited drag relief.

🟡Heated Tobacco

Pulze remains in early-stage international markets; not yet a meaningful contributor.

🟢Capital & Regulatory

H1 results 12 May; £1.45 billion FY26 buyback on track with ~48% deployed by mid-April. Spring Mountain Investments reduced its IMB stake from 4.80% to 3.99% in late April, removing one piece of overhang but also reducing the aggressive-buyer signal. Capgemini long-term partnership announced. Leverage at the lower end of the 2.0–2.5x range.

What I am watching

• H1 results 12 May — quality of underlying earnings vs. reaffirmed guidance

• UK generational-ban implementation specifics (IMB has the most exposure)

• Whether Zone’s positive pricing posture is sustainable as the category shifts

Japan Tobacco

JT sits in two competitive positions that get less attention than they deserve: it is the discount-tier consolidator in the US (L. Ducat continues to grow at extreme rates) and it is the heated-tobacco share-taker in Japan (Ploom gaining at Glo’s expense). The S&P downgrade to A in April reflects geopolitical exposure that the US-listed peers do not carry.

🟢Combustibles

L. Ducat continues to grow sales at extreme rates in the US discount tier (the highest growth rate of any major US cigarette brand in the latest 4-week NielsenIQ read). Eagle and Pyramid declining sharply. Concentration risk in the L. Ducat / Montego pair is real but the discount-tier consolidation narrative is intact.

🟡Modern Oral

Limited global presence in pouches; not a current driver.

🟢Heated Tobacco

Ploom continues to take Japan HTU share — most likely from BAT Glo rather than from PMI IQOS, given PMI’s share was flat in the period. JT also benefits from Japan’s phased excise increase in 2026 if elasticity does not deteriorate further than is already feared.

🔴Capital & Regulatory

S&P downgraded JT’s long-term issuer credit rating to A from A+ in April, citing geopolitical risk exposure. Stable outlook maintained. Russia continues to be a meaningful contributor to JT earnings — a structural feature US-listed peers do not share but also one that European ESG mandates penalize.

What I am watching

• Russia exposure visibility as the geopolitical situation evolves

• Ploom share gain durability post-Japan excise phase-in

• L. Ducat growth comparability as the brand scales beyond pure discount-tier consolidation

III. Regulatory landscape

Apr 22 Policy UK Bill banning tobacco sales to people born after 2008 cleared Parliament.

Apr 22 Policy Bangladesh approved amended tobacco control law expanding ad bans and smoke-free areas.

Apr 23 FDA Acting CTP director: PMTA backlog cut by approximately 70% over the past year.

Apr 23 Policy South Korea’s revised Tobacco Business Act took effect, banning online sales of liquid vapes.

Apr 24 Policy Delaware bill advanced raising cigarette tax from $2.10 to $3.60/pack and expanding to vapes/pouches.

Apr 24 Policy FDA added 18 tobacco harmful constituents to its list and sought comment on three more.

Apr 24 Policy Portugal and other EU member states submitted objections in Brussels over UK smoke-free generation bill.

Apr 27 Policy Spain’s major parties (PP, PSOE) reached agreement on sales-channel restrictions for vapes and pouches.

Apr 28 EU Report indicated a new 15% tobacco tax is one of five revenue streams the EU is considering.

Apr 28 Policy BAT NZ reported approximately 29% revenue decline for 2025; illicit estimated at 27.2% of consumption.

Apr 29 Policy Canada announced study of UK-style “smoke-free generation” ban as part of 2035 reduction goal.

Apr 29 Policy Cyprus retailers warned EU-driven excise could push pack prices from €4.50–5 to €8–8.50.

IV. Next Period Catalysts

May 7 TPB Turning Point Q1 2026 earnings call

May 11 PMI TEREA Blossom Pearl launch in Japan; ZYN by IQOS Tokyo expansion (IQOS Shops + Lawson)

May 12 IMB H1 2026 interim results — quality of underlying earnings vs. reaffirmed guidance

Pending PMI ZYN Ultra launch (still described as “in coming months”)

Ongoing FDA Throughput against the claimed 70% PMTA backlog reduction — read for which products clear next

The numbers are these. PMI reported adjusted diluted EPS of $1.96 against the Visible Alpha consensus of $1.83 — a 7% earnings beat. Net revenues of $10.1 billion came in 1.7% above consensus. Full-year currency-neutral guidance was reaffirmed at +5–7% organic revenue, +7–9% organic operating income, and +7.5–9.5% organic EPS growth. The dollar EPS guide ticked down marginally — from $8.38–$8.53 to $8.36–$8.51 — purely because management lowered the expected currency tailwind from $0.27 to $0.25.

PM closed two trading days later, approximately 8% above its pre-print level.

That is the puzzle. Not that PM rallied — a clean beat-and-reaffirm in a defensive name should rally — but that it rallied this much. PMI is a consumer staples business with stable, predictable earnings. The 8% move is the kind of reaction we associate with pre-revenue biotech or a Mag-7 name on an AI surprise, not a cigarette-and-smoke-free maker reaffirming a guide it had already given. Something else was happening. Unpacking what it was turns out to be more revealing than unpacking the quarter itself.

The Anticipated Story and the Unanticipated One

Heading into the print, the market’s view on PMI was almost entirely organised around one question: how bad would ZYN US be? Shipments collapsed in Q4 2025 due to visible channel destocking. The FDA’s pilot program for nicotine pouches had been the subject of unhelpful rumours in March. A persistent strand of sell-side commentary had been arguing that ZYN had peaked, that competitive intensity from on! and Velo was rising, and that the entire smoke-free transition algorithm — though always a multi-category construct of IQOS, ZYN, and VEEV — was being asked to live or die by the most volatile of its three legs.

That last framing is where the danger of the single story begins. PMI’s growth algorithm has never been ZYN alone. International combustibles continue to compound mid-single-digit dollar profit growth, driven by durable pricing power. IQOS in-market sales have grown at a double-digit pace for several years with high visibility. VEEV is now scaling. ZYN US is the most dynamic component — the one that produces both upside and downside surprises — but it is not the foundation. The foundation is combustible cash and IQOS expansion. ZYN US is a swing factor on top of that.

The pre-earnings consensus did not deny this in principle. But in practice, it had collapsed the entire investment case into the ZYN US trajectory. So when Q1 ZYN US shipments came in at –30.8%, that was anticipated. What the market had not adequately priced was the demonstration of just how resilient the rest of the company is when ZYN US is having a bad quarter.

International Smoke-Free revenue beat consensus by a wide margin. IQOS in-market sales grew +10.9%. Taiwan crossed 6% national share three months after launch — the most successful major IQOS rollout in PMI’s history. Japan reached 34.9% national share. VEEV shipments crossed one billion equivalent units for the first time in a single quarter, with European IMS volumes nearly doubling and VEEV reaching joint number-one in closed-pod share in Europe in Q4 2025. International combustibles delivered +8.5% pricing — running ahead of management’s own mid-term framework — with Marlboro hitting a record Q1 international share of 10.7%.

The honest reading of the quarter is therefore the one the consensus narrative was not equipped to express. The trivial observation is that ZYN US had a bad quarter. The non-trivial observation is that despite that bad quarter, PMI was still able to maintain its constant-currency outlook for the full year. That is a portfolio-level statement of resilience. It says the smoke-free transition does not depend on any single product line firing on all cylinders, and it confirms — with hard numbers, not management assertions — that IQOS and the broader international engine are picking up exactly the kind of slack the algorithm requires.

On ZYN US Specifically: There Is No Recovery Story Here

It would be a mistake to read the Q1 print as containing a positive ZYN US data point. Some post-earnings commentary has framed the +10% Nielsen offtake as a recovery, but the figure should be read against capacity, not the prior quarter.

PMI’s Owensboro, Kentucky, facility moved to continuous 24/7 production in 2025 to cope with the 2024 shortage and now has an annualised capacity of approximately 900 million cans. Q1 2026 offtake was approximately 175 million cans — less than 80% of Kentucky’s capacity, before counting any other source. The new 600,000-square-foot Aurora, Colorado plant, a $600 million investment that began limited production in September 2025, is ramping toward large-scale output through 2026. And news in late April confirmed that PMI is scaling back the production schedule at the Kentucky facility — a direct consequence of the supply-demand imbalance.

The picture this composes is not one of recovery. It is one of the significant and growing idle capacities in a business that, eighteen months ago, could not produce fast enough. A +10% offtake number against this backdrop is not a green shoot. It is confirmation that demand has not yet caught up with the supply footprint that has been built, and that ZYN Ultra — repeatedly described by management as “in coming months” — has yet to materialise. None of this was new information at the print. It is widely understood on the sell-side. The point is that the rally cannot be attributed to it.

Where the Beat Actually Came From

A useful test: when something surprises you, decompose the surprise. The $0.13 EPS beat (relative to the consensus of $1.83) had two components.

Currency contributed roughly $0.08. The $0.18 actual FX tailwind versus the $0.10 expected one accounts for over half of the beat on its own. The remaining $0.05 was operational. Decomposing the operational piece, International Smoke-Free was the dominant positive contributor; International Combustibles also beat. The US segment was a drag on the beat, not a contributor.

That matters because it forecloses the “ZYN bears were too pessimistic” reading of the rally. ZYN US was not the source of the operational outperformance; it absorbed some of it. The work was done by IQOS and the broader international portfolio, just as it had been done in each of the preceding several quarters — except that this time, the market was forced to recognise that the work being done was sufficient to absorb a 30%-plus shipment decline in ZYN US without bending the full-year algorithm.

What was repriced on April 22, then, was not the prospect of imminent ZYN US recovery. It was the structural robustness of the multi-category platform.

What the Earnings Call Was Actually About

The call itself was a study in attention. Seven analysts spoke before time ran out. Five of seven led with ZYN US. Counting follow-ups, ZYN US occupied the majority of Q&A airtime. There were brief questions about Japan, IQOS, corporate expenses, and Germany. The Japan retail price increase that took effect on April 1 received a couple of pointed but thin exchanges. VEEV’s European inflexion received almost no airtime at all.

This wasn’t necessarily wrong. ZYN US is the variable with the most dispersed views. IQOS’s strength is well-rehearsed; further questioning yields lower information at the margin. So you can defend the asymmetry of attention as efficient information-gathering.

You can also read it differently. The same question pattern that dominated the call also dominated pre-earnings sell-side notes and post-earnings press coverage. The story analysts were asking about was the story their clients were asking about, and the story their clients were asking about was the story being told back to them. That is how a single story sustains itself. It is not anyone’s individual error. It is a coordination problem in which everyone is rationally responding to what everyone else is focused on.

The risk of that coordination is straightforward: if the multiple is set by the marginal story rather than by the dominant cash-flow engine, it is unstable because stories shift.

Why the Price Could Move 8% in Two Days

It is worth being precise about a question the rally raises but does not, on its own, answer: how can a defensive consumer staples name with reaffirmed guidance move 8% in two days?

Two structural facts about modern equity markets make this not just possible but expected.

The first is the inelasticity of aggregate equity demand, formalised by Xavier Gabaix and Ralph Koijen in their Inelastic Markets Hypothesis. Their core empirical finding is that the supply of risk-bearing capital is highly inelastic in the short run; using granular instrumental variables, they estimate that $1 of net flow into equities moves aggregate market capitalisation by approximately $5. The intuition is that most institutional capital sits in mandates with fixed equity allocations or modest sensitivity to expected returns, leaving very few participants positioned to absorb flow imbalances at unchanged prices. When flows arrive, prices have to overshoot to clear. Earnings events are precisely the kind of catalyst that mobilises flows.

The second is the structure of the active management industry, which Terry Smith spoke to at the Fundsmith Annual Meeting earlier this year. Active managers in 2026 operate under unprecedented pressure. Passive vehicles allocate mechanically by index weight; they do not reprice on earnings. The marginal price-setting flow on a name like PM, then, comes from a relatively small pool of active capital whose AUM — and therefore whose business model — depends on quarter-to-quarter alpha generation against benchmarks they cannot afford to underperform for long. An active manager who knows PMI’s long-term thesis is intact still cannot hold a position through three quarters of underperformance without facing redemptions. The result is that even fundamentally oriented active capital is forced to chase short-term earnings inflexion points.

Combine those two facts. A relatively small reweighting of active capital — bears covering ZYN-driven shorts, sidelined bulls re-engaging with the multi-category thesis — meets a very inelastic supply of marginal sellers. The price has to move by a multiple of the flow to clear.

The response of price to flow is much larger than naive efficient-markets intuition would suggest, and therefore that magnitudes of moves should not be read as proportional revisions to intrinsic value. A 5% drop on March 12 was not the market deciding PMI was 5% less valuable. An 8% rally on April 22-23 is not the market deciding PMI is 8% more valuable. Both are positioning unwinds amplified by inelastic supply.

The Mirror in March

The March 12 reaction now reads more clearly. Rumours that the FDA would halt the nicotine pouch pilot program, through which ZYN Ultra was being reviewed, led to a roughly 5% drop. As I argued in the first edition of the bi-weekly signal tracker, the rumoured fast-track program was, on closer analysis, ambiguous in sign for PMI. Accelerated approval of ZYN Ultra would also imply accelerated approval of competitor products — most consequentially VELO 2.0, which dominates the European market and several major Asian markets — meaning the regulatory pathway PMI’s bulls saw as a tailwind could just as easily compress ZYN US’s competitive moat. The 5% drop on bad-news rumours was therefore not just amplified; it was directionally questionable.

The April 22 reaction is a different animal. The rally is not over-priced relief on ZYN. There is no relief on ZYN to the price. The rally is the market repricing the PMI from a “ZYN-dependent growth story” to a “diversified smoke-free leader whose algorithm absorbs ZYN disappointments.” That is a real change in the implicit thesis the marginal investor is willing to underwrite, and in inelastic markets, even modest changes in implicit theses can produce large price reactions.

The two events are not mirror images of each other. They are, however, both products of the same underlying dynamic: a small, narrative-driven shift in active positioning meeting a market structure that translates flows into outsized price moves.

What the Single Story Crowded Out

Adichie’s central admonition is not that single stories are wrong. It is that they crowd out other stories that are equally true and often more important. What did the ZYN-centric framing crowd out at this print?

Japan price elasticity. PMI raised retail prices in Japan by approximately 20% on April 1 to absorb the largest excise increase in HTU history, with a second stage to follow on October 1. Management’s most direct comment was that it is too early to say. Japan represents roughly 40% of global HTU volume and a disproportionate share of HTU profitability. If elasticity disappoints — even modestly — global HTU growth could decelerate from the current +11% trajectory toward high single digits. This is the most consequential single test PMI faces in 2026, and it received a fraction of the attention ZYN received.

The combustibles cash engine. International combustibles delivered +8.5% pricing in Q1, with management raising the full-year pricing variance forecast to “more than 6%.” Marlboro hit a record Q1 international share of 10.7%. International combustibles organic gross profit grew +3.9% on a constant-currency basis despite a tough volume comparison. This is the business that funds the entire smoke-free transition. Its pricing power is the single most underappreciated asset in the PMI investment case.

The multi-category buildout. VEEV reached joint number-one closed-pod position in Europe in Q4 2025, surpassing established players in a category in which PMI was a late entrant. VEEV crossed one billion equivalent units in Q1 for the first time, and IMS volumes nearly doubled. PMI is now executing a genuine three-leg multi-category strategy at an international scale that no other major player has assembled.

Margin trajectory. Ex-currency, Q1 organic operating income grew only +0.9%. The full-year guide implies organic margin expansion. The implied H2 margin recovery is therefore meaningful and depends on three independent variables holding: Japan elasticity not cracking, US ZYN comparisons normalising as expected, and SG&A moderating in the second half.

Each of these stories has more bearing on PMI’s intrinsic value over the next two years than the precise ZYN US offtake trajectory in the next two quarters. None received its proportional share of attention.

What the Patient Investor Should Take From This

The Q1 results were genuinely good. The most important thing they demonstrated was something almost nobody framed correctly in the immediate aftermath: the company’s organic algorithm absorbed an anticipated ZYN US disappointment without the algorithm itself bending. IQOS continues to extend its category leadership in Japan even as competition intensifies. VEEV’s European achievement is meaningful. The combustibles business is throwing off cash with pricing power that most consumer staples companies would envy.

But the 8% move has compressed the margin of safety. At roughly 19–20× forward earnings, PMI is now priced not for the algorithm to compound uninterrupted but for it to surprise positively. The bar for the next several quarters has just been raised.

The single story crowded out at this print was not “ZYN US recovery is here.” Almost no one is positioned for that, and the capacity data argue strongly against it. The single story crowded out was the recognition that the rest of PMI’s portfolio is doing more work than the consensus had given it credit for. That recognition has now arrived at the price. Going forward, the questions that should occupy us are the ones that were not asked on the call: Japan elasticity, the durability of combustibles pricing past 2027, VEEV’s European unit economics, and the H2 margin path.

Adichie’s closing line is the one worth keeping. “Stories matter. Many stories matter.” The investor’s version is simpler: when the market is telling you a single story very loudly, the most valuable thing you can do is ask which stories it is failing to tell.

Disclosure: The author holds positions in BAT, PMI, and IMB. No position in Altria or Japan Tobacco. This article is for informational purposes only and does not constitute investment advice.

Sources:

PMI Q1 2026 earnings release, conference call transcript, and presentation (April 22, 2026);

Tobacco Reporter, “PMI Ramps Up Zyn Production in New Colorado Plant” (February 23, 2026);

Owensboro Times, coverage of PMI scale-back at Owensboro Swedish Match facility (April 2026);

Chimamanda Ngozi Adichie, “The Danger of a Single Story” TED Talk (2009);

Xavier Gabaix and Ralph S. J. Koijen, “In Search of the Origins of Financial Fluctuations: The Inelastic Markets Hypothesis,”

NBER Working Paper 28967 (June 2021);

Terry Smith, Fundsmith Annual Meeting transcript (2026).

I’ve covered the tobacco sector for long enough to know that the information problem isn’t scarcity — it’s fragmentation.

Every two weeks, there’s a publication of detailed NielsenIQ scanner data on U.S. nicotine. Companies release earnings, trading updates, and press releases on their own schedules. Industry journals — 2Firsts, Tobacco Insider, Tobacco Reporter — publish regulatory and product developments daily. Google Trends reveals what consumers are actually searching for. And these sources seldom “talk to each other”.

The result is that most participants in this sector — whether they’re managing a portfolio, running an IR team, or building a competitive strategy deck — are manually triangulating across information flows. Critical contradictions between data sources go unnoticed. Period-over-period trends that only emerge across four or five NielsenIQ reports disappear unless one spends time to systematically stack them.

I wanted a single analytical layer that sits atop all five source types, surfaces the signals that matter, flags contradictions, and tracks whether the structural risks I care about are moving closer or farther away.

So I built one. And starting today, I’ll publish it here every two weeks.

How the bi-weekly tracker works

It integrates five source types into a unified signal framework:

NielsenIQ scanner data — Bi-weekly reports on U.S. nicotine (cigarettes, smokeless, e-cig/vapour, cigars) provide granular manufacturer-level and brand-level sales, volume, pricing, share, distribution, and promotional data. I track every major data point across rolling periods and build period-over-period trend tables that reveal trajectory changes invisible in any single report. Please understand that I will only share the conclusion or a few key numbers with you, as it may be inappropriate for me to share everything publicly without obtaining formal consent from the data vendor.

Company IR — earnings releases, trading updates, guidance changes, press releases, and investor presentations from PM, Altria, BAT, Imperial Brands, and Japan Tobacco. This is where I cross-reference what the scanner data says consumers are doing against what management says is happening to revenue and profit.

Industry journals — 2Firsts, Tobacco Insider, and Tobacco Reporter collectively cover regulatory changes, product launches, market access developments, and competitive moves globally. These provide the why behind the what in the data.

Search interest data — Google Trends for key terms like “ZYN”, “Velo Plus”, “on! PLUS”, “nicotine pouches”, and “IQOS”. Consumer search behaviour either confirms or contradicts what scanner data and management narratives suggest. If ZYN sales inflect positively but search volume is falling, the recovery is promotional rather than organic. That distinction matters.

AI-assisted synthesis — and this is the part I want to be transparent about. I use AI tools (specifically Claude) as an analytical co-pilot to process the volume of data across all five sources, identify contradictions, run mathematical sanity checks on derived metrics, and stress-test my reasoning. The domain expertise, judgment calls, signal ratings, and kill conditions are mine. The AI accelerates the pattern recognition across a data surface that would take days to process manually. I also want to give credit to a Substack channel called 90s.pm.investing [EN]. I have used some of his articles as a prompt for my AI model to complement my analytical framework.

Rest assured, I’m not outsourcing my thinking to a model. I’m using a model to make my thinking faster, more systematic, and more accountable. Every signal has a source tag. Every rating has an explanation. Every kill condition has a threshold and a current reading. You can audit every claim.

What the bi-weekly tracker produces

Each edition contains:

A dynamic signal matrix — every company gets an overall rating (green/yellow/red) based on the aggregate signal environment. Individual signals are tagged by source, rated, and flagged when they’re new to the period.

Kill conditions — binary structural risks I track across periods. These aren’t predictions; they’re tripwires. “Marlboro dollar share below 43%” or “ZYN volume share in pouches below 45%.” Each has a threat level (inactive → monitoring → elevated → critical) and a current reading. When one breaches, it demands a reassessment of the investment thesis.

Mathematical thinking — the derived analysis that sits on top of the raw signals. This is where I run the partition tests (“Is ZYN’s sales turn genuine or a promotional outcome?”), resolve contradictions between data sources (“Why does NielsenIQ show IMB improving while Tobacco Insider says profit quality is weak?”), and quantify dynamics that aren’t in any single report (“Each Marlboro defector to Basic destroys $4.26 of per-pack revenue”).

Catalyst calendar — what’s coming in the next two weeks that could change the picture.

Who this is for

I published the bi-weekly tracker for three audiences, and it serves each differently:

If you manage money in tobacco stocks (like I do with my own money) — whether at a fund or in your personal portfolio — RECITAL gives you the two-week information cycle compressed into a single view with explicit signal ratings. You don’t need to read four sell-side research reports, three industry journals, and five IR websites. You need to know: what changed, what contradicts, and what’s approaching a threshold. The kill conditions are designed for position sizing — when one moves to “elevated,” it’s a prompt to revisit your risk, not a sell signal.

If you work in corporate strategy or investor relations at a tobacco company — RECITAL shows you how an analytically rigorous external observer synthesises public data about your company and your competitors. The cross-company comparisons and contradiction analysis are the kind of work that investment analysts do internally but rarely publish transparently. The signal matrix tells you what the market’s information environment looks like — which may differ from what your internal data shows.

If you’re a sector analyst or consultant — RECITAL is a time-saver and a framework check. The mathematical thinking section explicitly shows the reasoning chain, so you can agree, disagree, or refine. The source tags let you trace every claim back to its origin. I’d rather you challenge my reasoning with better data than nod along with my conclusions.

Dynamic Signal Matrix

Philip Morris International

🟢ZYN Sales Inflect Positive: First positive sales print since promo ramp. PM is de-escalating promotions while growing volume. Pricing decline moderating.

🔴ZYN Share Erosion Continues Despite Sales Turn: still losing volume and value share due to competition from Velo Plus. The sales inflexion hasn’t stopped share erosion yet.

🟡PMI "Forgotten Smoker" White Paper: PMI U.S. released national polling + white paper pushing back on the notion that smoking is a “solved” issue. 8 in 10 Americans surveyed demand a better approach. Strategic positioning for MRTP and harm reduction advocacy.

British American Tobacco

🟢Best Performer in the U.S.: Velo Plus value share continues to grow, driven by volume growth and stronger pricing (coincided PMI’s de-escalation of promotion). Velo Plus market share surpassed On! in Q4 2025, and it is now 60% higher than On!.
🟢CFO Appointment Resolves 13-Month Interim Period: Constantinescu named CFO effective Sep 1, ending interim leadership since Aug 2025. Previously 16 years at BAT in senior finance. Currently CEO Asahi Europe & International. Resolves organizational uncertainty.

🟡France Pouch Ban Compliance + EU Regulatory Divergence: Swedish politicians ask European Commission to clarify legality of France’s pouch ban. BAT France compliance confirmed. Italy formally submitted detailed opinion to EU obstructing Ireland’s disposable vape ban.

Altria

🟡on! Total Turns Positive: on! total sales growth turned positive, driven by launch of On! PLUS. Deep discounting of On! PLUS driving trial. National rollout completing by end H1.

🔴Marlboro market share delince: Marlboro market share continues to decline while Basic market share continues to grow. Each Marlboro-to-Basic conversion destroys >$4 per-pack revenue. (Although one may also argue that the growth of Basic doesn’t cannibalise Marlboro. ). MO announced another list price increase in April — may accelerate trade-down.

Imperial Brands

🟡U.S. Sales Sequential Improvement: Sequential improvement in total sales, driven by double digit growth of discount cigarette brand Crowns. ZONE retail sales value growth driven by heavy promotion. IMB admits promo activity is compressing NGP net revenue. From time to time, net revenue may be negative as rebate provided to wholesalers / retail channels may be higher than revenue recognised.

🟡H1 Trading Update: Guidance Reiterated, Quality Weak: FY26 guidance confirmed — low single digit tobacco, double digit NGP revenue growth, 3-5% EBIT growth, ≥high single digit EPS growth, ≥£2.2B FCF. BUT: H1 EBIT only “slightly higher.” “Modest aggregate share reduction across top five markets.” Tobacco Insider calls “quality weak.”

🟢Capital Return + New Initiatives On Track: £0.7B of £1.45B FY26 buyback completed (≈48%). New Malibu cigarette brand launched March. Capgemini long-term partnership begun. Zone new flavour launches. Leverage at lower end of 2.0-2.5x range. H1 results May 12.

Japan Tobacco

🟢U.S. Cigarettes Accelerating: Only major manufacturer with positive U.S. cig revenue growth. Weak sales of Montego, Eagle and Pyramid is more than offset by strong growth of L. Ducat. Discount strategy intact.

🟡Japan HTP Excise + Record In-Flight Smoking: HTPs drive record in-flight smoking reports in Japan — 429 incidents in 2025, highest since 2004. HTPs now >40% of Japan tobacco sales. Phase 1 excise effective Apr 1. Seoul expanding vaping enforcement to include e-cigs from Apr 24.

🟡KT&G Oral Nicotine + Turkey 2040 Ban: KT&G preparing oral nicotine pilot line. Turkey draft bill targets complete tobacco ban by 2040. South Korea may follow Japan in HTP tax increase. These compress JT’s Asian margin outlook.

What Issue No. 1 found

This issue covers NielsenIQ data through April 4, the Imperial Brands H1 trading update from today, and industry journal coverage through April 14. Four key findings:

Philip Morris - $600 million ZYN nicotine pouch factory in Aurora, Colorado, began initial production in September 2025, with full operations ramping up in 2026. While exact, finalised production capacity figures are proprietary, the facility is designed to significantly increase output to meet global demand and is supported by 500 permanent jobs. There are three things for certain:

1. With the increased production capacity, PMI must find a way to distribute the products. Consumer demand growth does not always align with supply expansion. When there’s a production ramp, marketing campaign and promotion must follow.

2. The marketing campaign’s purpose is to initiate trial, hence it won’t last forever. The key thing to watch is new customers’ repurchase patterns at a lower promo, not volume growth during the marketing campaign.

3. Fixed costs, such as factory overhead and depreciation, began to kick in alongside marketing investment.

A few interesting events happened over the past few weeks:

1. Volume growth has accelerated at the expense of lower ASP since early 2026, resulting in a decline in ZYN's retail sales value and market share. PMI recently declined, while retail sales value returned to growth, driven by stronger pricing. However, market share loss persists due to competition from VELO Plus, a moist-pouch-format product.

2. The FDA has slowed its fast-track review for nicotine pouches (e.g., Zyn, Velo) due to intense concerns regarding youth addiction and risks to non-users. PMI's share price dropped by 5% on this news. This magnitude is the largest among tobacco stocks, based on the belief that PMI needs FDA approval for ZYN Ultra to enter the moist pouch category (which VELO Plus dominates) and to arrest ZYN's market share decline in the U.S. It is possible that ZYN Ultra may be a marginally superior product to VELO Plus.

With “all due respect” to the share price reaction, here comes a question. Has ZYN Ultra (the moist pouch format of ZYN) ever won any market in Europe against VELO? So far, I have seen zero evidence. While many people see the fast-track review as a share-price catalyst for PMI, it looks like a Pandora's box to me. In tobacco investing, market share stability and resilience are the rarest qualities, far more important than market share expansion and volume growth.

Without the fast-track review, it may take longer (or forever) for ZYN Ultra to obtain PMTA approval from the FDA. It is highly likely that VELO Plus will continue to take market share from ZYN, but ZYN will also remain the market leader in the U.S., as it is the best product in the dry pouch format.

With the fast-track review in place and ZYN Ultra receiving PMTA approval, it is likely that the European version of VELO, or, for simplicity, VELO 2.0, could also be approved. If that happens, there’s a nonzero probability that ZYN may lose its market leadership position in the U.S. (which nobody would price in now, including me). As we all know, VELO dominates the nicotine pouch category in almost EVERY MARKET in Europe, second to none. Can PMI still dominate the U.S. nicotine pouch market if both VELO 2.0 and ZYN Ultra are present? Nobody knows, and one shouldn’t take it for granted.

From a discounted cash flow perspective, a perpetual risk-free cash flow of $100 per annum at zero growth is worth $ 2,000 in present value, assuming a 5% risk-free rate. Assuming a 40% free cash flow margin, the required annual revenue is $250. In this scenario, maintenance capex is kept to a minimum, equal to depreciation, while R&D and marketing investments are also minimal.

In another scenario, a cash flow of $100 per annum in year 1, with a 10% growth rate and a 15% discount rate, is worth $2,000 in present value. Assuming a 30% free cash flow margin, the required annual revenue is $333, which is 33% higher than the risk-free, zero-growth case. In this scenario, capex would exceed depreciation due to capacity expansion, while R&D and marketing investments would also be higher.

Translating this to the real world, reducing the discount rate of free cash flow (i.e. enhancing market share resilience) could be as valuable to shareholders of the company as increasing the growth rate of free cash flow (i.e. market share expansion and volume growth), but the latter is much more risky and costly to execute because nicotine as a category has a low growth rate and the sector is highly regulated. It is particularly true for tobacco companies that trade at earnings yields (the inverse of the P/E ratio) substantially higher than the risk-free rate.

Imperial Brands - It was the third-fastest-growing tobacco company in the U.S. one year ago, only behind Philip Morris and Japan Tobacco. It benefited from two factors, which unwinded over the past year.

1. Its balanced portfolio spanning premium and branded-discount categories was more resilient in the downtrading environment than the portfolios of Altria and Reynolds American, which are premium-skewed. It has also been gaining market share due to an expanded sales-representative headcount and targeted marketing investments (NASCAR sponsorship). Since then, the rapid growth of Lucky Strike (owned by Reynolds American) and Basic (owned by Altria) in the discount category, the repositioning of Pall Mall in the branded discount category, and Japan Tobacco’s strong presence in the discount category have increased the competitive intensity and eroded Imperial Brands' growth momentum.

2. Imperial Brands was gaining market share in the mass-market cigar category one year ago, particularly with its premium brand Backwoods. At one point, Backwoods retail sales value was growing at 10% yoy, partly helped by a weak comparable period in 2024. As mass-market cigars have a higher ASP than cigarettes, strong growth in cigars (relative to the cigarette business) also improves the price/mix of Imperial Brands’ U.S. business. Since then, John Middleton (owned by Altria) has been winning, gaining market share from Imperial Brands.

The single most important event over the past few weeks was a weak 1H 2026 pre-close trading update, which caused the share price to drop by 7%. After market share stabilisation in key markets over the past few years, Imperial Brands is guiding to a market share loss in FY2026, while maintaining its full-year guidance (revenue / operating profit / free cash flow unchanged). It is perceived as a decline in revenue and earnings quality.

Again, I always respect the market and believe the share price correction can be justified. However, I am also considering another factor that the market has not yet priced in: the harmonisation of tax rates across various nicotine product categories. In Japan, the government is raising the excise tax rate on heated tobacco products. In the U.S., certain states are considering raising the excise tax on nicotine pouches to the level of cigarettes. In Europe, revision to the Tobacco Taxation Directive (TTD) is underway. The proposal introduces higher minimum excise duties on cigarettes and raw tobacco and extends coverage to new products such as heated tobacco and e-cigarettes. While the tax rate harmonisation may take different shapes or forms across the globe, there’s one thing in common. Many governments are facing increasing pressure to reduce fiscal deficits (partly due to AI replacing white-collar jobs and potentially reducing tax revenue). For those who want to understand more about the macroeconomic impacts of AI, which indirectly impacts tobacco companies, please refer to this Citrini Research article - THE 2028 GLOBAL INTELLIGENCE CRISIS.

Tobacco excise tax is an easy target for obvious reasons - it is the least controversial due to the social stigma and health consequences of cigarette smoking. An increase in smoke-free product penetration is accelerating cigarette volume decline, threatening the role of the tobacco excise tax as a fiscal deficit plug. While further increasing the tax on cigarettes is a viable option for some countries, it may not work if cigarettes are already taxed to the maximum, and a further increase in the tobacco tax rate can adversely affect tax collection (for example, in Australia) due to illicit trade. If and when that happens, taxing smoke-free products could become an increasingly popular option.

Currently, smoke-free products are cheaper than cigarettes in most parts of the world due to lower taxes. When tax harmonisation reduces the price gap, the volume growth of smoke-free categories may slow down, while the volume decline of cigarettes may be moderated. Japan recently increased excise tax on heated tobacco, and it is worth monitoring the impact on cigarette and heated tobacco volume dynamics. Among the big tobacco companies, Imperial Brands is the most focused on the cigarette category due to a weak smoke-free product portfolio. If Imperial Brands remains disciplined in its NGP expansion and focused on the combustible business, downside risk to free cash flow will be minimal.

British American Tobacco - it becomes the fastest-growing major tobacco company in the U.S. in 2026. Even faster than Philip Morris (primarily ZYN) and Japan Tobacco. Back in 2023, BAT was the #1 market-share donor. This impressive turnaround was enabled by three factors:

1. Stabilisation of the cigarette volume share, helped by the healthy growth of Natural American Spirit and Lucky Strike and the repositioning of Pall Mall.

2. Enforcement against illicit disposable vape and the PMTA registry bill in various states brought VUSE back to the positive growth territory.

3. Strong growth of VELO Plus, becoming the #2 nicotine pouch brand in the U.S. within 1 year of product launch, dominating the moist pouch format category.

A notable recent event was France’s ban on nicotine pouches. While France is a small market for BAT, it still set a precedent for other European countries on nicotine pouch regulation. Different approaches by European countries to nicotine pouch regulation also reflect the challenges of revising the EU Tobacco Product Directive.

BAT’s growth is largely driven by the nicotine pouch category, which it claims to be the global #1 player. If it falters for whatever reason, be it an outright ban or a surge in excise tax, the tailwind could disappear quickly.

Altria - Marlboro market share has been declining while Basic has been on the rise. Marlboro ASP is 70% higher than Basic. MO announced ANOTHER list price increase in April. For Marlboro, pricing power is NOT compensating for volume loss. Basic may be cannibalising Marlboro at a lower price (again, one may argue that Basic market share gain is independent of Marlboro market share loss). Each Marlboro defector to Basic destroys >$4 of per-pack revenue. MO is trading brand equity for portfolio volume retention — a strategy that works only if the alternative (losing the consumer entirely to competitors) is worse. The April price increase may ACCELERATE this by widening the gap to discount brands.

Next Period Catalysts

PM: Q1 2026 earnings April 22 — first under 3-segment reporting. ZYN data will be scrutinised. If management confirms a promo pullback and sales stabilisation, the narrative shifts from “crisis” to “optimisation.” Critical read for the entire sector.

BAT: AGM April 15 (tomorrow). Constantinescu's appointment as CFO, effective Sep 1, resolves organisational risk.

IMB: H1 results May 12. Today’s trading update sets a low bar (”slightly higher” EBIT). Zone flavour launches + Malibu brand = H2 catalysts. Watch for Middle East impact disclosure.

MO: Q1 2026 earnings expected late April. on! PLUS national rollout is completing. Marlboro market share stabilisation becomes more crucial.

ALL: FDA flavoured ENDS draft guidance comment period open. Indonesia is weighing a vape ban under the narcotics law. Turkey draft bill targeting 2040 full tobacco ban. Hong Kong is banning the public use of alternative products on April 14.

First, PMI delivered its strongest dollar EPS growth since 2011 — up 15% in FY2025 — and the market rewarded it with a multiple expansion to roughly 19x forward earnings. The business has never been better. The stock has never been more expensive relative to peers.

Second, BAT reported its first return to U.S. revenue and profit growth since 2022, launched Velo Plus to a #2 position in U.S. Modern Oral within 12 months, and guided for a return to its midterm growth algorithm in 2026. The operational evidence is improving faster than the narrative.

Third, the illicit disposable vape problem, which I discussed extensively in prior work, has shown early signs of moderating in the U.S. — with disposable volumes growing approximately 30% in 2025 versus over 50% in 2024. This is a tailwind for every legitimate nicotine company, but its magnitude remains uncertain.

This article updates every ranking from the original. The ranking methodology remains unchanged: risk-adjusted total shareholder return over a 3–5 year horizon, combining dividend yield, share count reduction, earnings growth, and re-rating potential.

Here is the updated summary:

The most important change from the original: I am becoming more cautious about PMI from a risk-reward perspective, not because the business is deteriorating — it isn’t — but because the market has fully capitalised on its excellence. At 19x forward earnings, PMI offers a mathematical TSR of roughly 16%, but with downside risk if any element of its growth algorithm disappoints. Meanwhile, IMB and BAT offer comparable TSRs with higher certainty of meeting the growth algorithm implied by the current valuation.

Let me walk you through the evidence.

Part I — Combustible Revenue Growth Algorithm

The combustible business remains the financial engine of every tobacco company. Its contribution to free cash flow funds, transformation, dividends, and buybacks. The question is not whether combustible revenue can grow — for most companies, it can, through pricing — but whether the growth is sustainable and real after adjusting for currency, one-offs, and geographic mix.

What’s changed since the original ranking:

JT’s combustible performance was exceptional in FY2025. The 10.8% price/mix was described by JTI’s CFO as “significantly above its past 3-year average,” driven by aggressive pricing across all clusters, positive volume performance that enabled the maximisation of pricing benefits, and a limited impact from down-trading relative to recent history. Combined with the first full year of Vector Group's contribution, this resulted in a headline AOP growth of 24.9% at constant currency. But strip out Vector Group’s inorganic contribution and normalise pricing toward its historical mid-single-digit range, and the underlying organic AOP growth is closer to mid-to-high single digits — still strong, but not the outlier the headline suggests. The company expects Tobacco AOP to grow 8.5% in 2026 at constant FX.

Altria’s pricing power deserves more credit than it receives. In the original, I noted that Altria’s 9.3% price/mix during FY22-24 was remarkable given a -9.7% volume CAGR. That relationship held in FY2025: net price realisation of 8.4% against adjusted volume declines of roughly 9.5%. The smokeable products segment delivered over $11 billion in adjusted OCI with margins of 63.4% — up 180 basis points. No other consumer staples company offsets double-digit volume decline through pricing with this consistency. The question is whether the cigarette industry’s accelerated decline (now 8% full-year versus historical 4-5%) is cyclical or structural. I believe it is partly both: the proliferation of illicit disposable vapes has added 2-3 percentage points of incremental decline, while structural factors like down-trading into discount brands and switching to nicotine pouches contribute another 1-2 percentage points above the secular trend. If enforcement actions take hold — and early signs suggest they are — the industry decline could moderate toward 6-7%, which would be supportive for Altria’s algorithm.

BAT’s U.S. combustible turnaround is real. Revenue grew 4.6% in the U.S., with value share up 30 basis points. The improvement reflects accumulated investments in sales force capability, portfolio strengthening, and enhanced revenue growth management. BAT is also benefiting from the excise duty drawback, as Reynolds has invested over $200 million in U.S. manufacturing and increased domestic leaf purchases by 65%. While BAT declined to quantify the drawback’s contribution, management stated that combustible revenue would have been positive independent of it.

Part II — Next-Generation Products: The Category-Level View

The NGP landscape has clarified considerably since the original ranking. Modern Oral has emerged as the fastest-growing category with the clearest path to profitability. Heated tobacco remains dominated by PMI. And vaping continues to be distorted by illicit products.

The Modern Oral story is the single most important competitive dynamic across the sector. Three observations:

1. BAT’s Velo Plus has outperformed expectations.

   1. Since its late-2024 launch, Velo Plus has reached the #2 position in U.S. Modern Oral, with a nearly 18 percentage-point gain in volume share and a 70% repurchase rate.

   2. Critically, BAT achieved positive category contribution within 12 months — consistent with what I previously described as Velo’s superior product design in Europe, which found resonance when brought to the U.S. market.

   3. BAT CEO Tadeu Marroco stated on the earnings call that in December, Velo captured approximately 70% of industry volume growth and 80% of industry value growth.

   4. These are extraordinary figures for a product that has been in-market for barely a year. The pending question is whether BAT’s European Velo formulation (which I’ve termed “Velo 2.0” in prior articles) can eventually be authorised for the U.S. market.

   5. The current Velo Plus uses synthetic nicotine, which keeps the brand alive but is not the same product that dominates in Europe. If the FDA authorises the European formulation, it would represent a genuine competitive threat to ZYN’s dominance in the higher-strength wet pouch segment.

2. PMI’s ZYN faces a portfolio gap that it cannot solve without FDA cooperation.

   1. ZYN grew U.S. shipments by 37% to 11.9 billion pouches, but its share of category growth is decelerating — down from approximately 50% of category volume growth — while its value share of over 67% reflects premium pricing.

   2. The challenge, as CEO Jacek Olczak candidly acknowledged, is that ZYN is competitive within the 3-6 milligram dry segment but “clearly is missing a higher nicotine strength.”

   3. ZYN Ultra, which would address this gap, is included in the FDA’s pilot program but has not yet received authorisation. Until it does, ZYN is competing with one hand tied behind its back in the category's fastest-growing segment.

3. Category profitability is strong.

   1. PMI’s ZYN maintains gross margins above the IQOS business average — best-in-class within PMI’s portfolio. The modern oral category is structurally more profitable than vaping because it requires no device, has simpler manufacturing, faces a lower regulatory burden in most markets, and faces minimal illicit competition. This is why I’ve been bullish on the category since the original ranking.

On heated tobacco, PMI’s IQOS delivered another strong year with adjusted IMS growth of 10.5%, but the upcoming Japan excise increases in April and October 2026 will create a meaningful headwind. PMI has submitted price-increase applications, but as Emmanuel Babeau noted, the excise impact translates into a 20% retail price increase — the largest since the category’s inception. JT’s Ploom AURA is the most interesting competitive development, with the device receiving higher Net Promoter Scores than its predecessor and driving Ploom to a 16.5% share of the segment in Japan by December. Whether Ploom can sustain this trajectory against IQOS’s entrenched position and IQOS ILUMA’s technology advantages remains the key question.

Part III — Margin Structure & Manufacturing Strategy

The key structural insight from the original ranking — that faster volume decline can paradoxically reduce per-unit COGS when offset by equivalent pricing — played out perfectly at Altria in FY2025. With volumes down roughly 10% and pricing up roughly 8-9%, the volume decline reduced raw material requirements in almost the same proportion as the cost inflation, while fixed cost absorption per unit actually benefited from productivity improvements.

This is why Altria’s smokeable OCI margin expanded 180 basis points despite the most severe volume decline in the peer group.

BAT’s Fit2Win program is the most structurally important cost initiative in the sector. The company raised its annualised savings target to £600 million by 2028, up from £500 million previously, with the incremental £100 million coming from organisational streamlining. Combined with the £2 billion productivity savings target by 2030, this represents a clear pathway to margin expansion even as NGP investment increases. In the original ranking, I detailed how BAT’s product simplification efforts — reducing leaf grades by 76%, blends by 53%, formats by 51%, and pack formats by 32% — would structurally lower manufacturing complexity. This is now being executed alongside factory rationalisation (the Langenhagen closure at IMB is a parallel example of this industry-wide trend).

PMI’s margin challenge is nuanced. The adjusted operating margin returned above 40% for the first time in years, driven by smoke-free mix improvement and cost discipline. But PMI’s CapEx intensity (3.8% of revenue) is the second-highest in the peer group and likely to remain elevated as it expands ZYN manufacturing capacity and prepares for the U.S. IQOS ILUMA launch. The $2 billion gross cost savings program targeting completion by the end of 2026 partially offsets this, but the margin trajectory depends on continued double-digit smoke-free revenue growth to generate operating leverage on the elevated investment base. If growth decelerates — whether from Japan's excise headwinds, ZYN's competitive pressures, or regulatory delays — the margin expansion narrative becomes vulnerable.

Part IV — Balance Sheet & Capital Allocation

Capital allocation is where management conviction meets mathematical reality. A company buying back stock at 9x earnings achieves twice the EPS accretion of one buying at 18x earnings.

1. Imperial Brands’ buyback is the most efficient in the sector. At £1.45 billion committed for FY2026 against a market capitalisation of roughly £26 billion, IMB is retiring approximately 5-6% of its share count annually at roughly 9x earnings. IMB’s buyback is mechanically twice as powerful per unit of capital deployed when compared to PMI trading at 19x earnings. Moreover, IMB’s low payout ratio (~49%) means the buyback is funded entirely from retained earnings without compromising the dividend or leverage target — a luxury no peer enjoys to the same degree.

2. BAT’s ITC monetisation strategy has moved from a strategic wildcard to active execution. Over the course of FY2025, BAT completed two significant disposals. In May, BAT sold 2.5% stake in ITC for net proceeds of £1.05 billion. The proceeds provided greater financial flexibility and funded a £200 million extension of BAT’s share buyback program, bringing the total 2025 buyback to £1.1 billion. Then, in December, BAT completed a block trade of a 9% stake in ITC Hotels for net proceeds of £315 million, with the proceeds directed toward deleveraging within the target 2.0–2.5x adjusted net debt/adjusted EBITDA corridor by end-2026. BAT retains a ~6.3% holding in ITC Hotels following the sale.

Separately, BAT has increased its capital expenditure guidance from £612 million in FY2025 to £750 million in FY2026, with the incremental spend directed primarily toward expansion of the New Categories portfolio and enhancements to Modern Oral manufacturing capacity — most notably to support Velo’s growth trajectory. This elevated investment profile highlights the competing demands on BAT’s capital allocation: the company is simultaneously monetising ITC to fund buybacks and deleverage while ramping CapEx to support the NGP transformation. The ability to sustain both tracks depends on continued growth in combustible cash flow and disciplined execution of the remaining stakes in ITC and ITC Hotels.

3. JT’s dividend sustainability warrants scrutiny, though the risk is more nuanced than a simple payout ratio analysis might suggest. The reported dividend payout ratio of approximately 70% appears comfortable on a consolidated basis. In the original ranking, I flagged a concern that excluding 100% of Russia profit (on repatriation grounds) and reducing Canada profit by 85% (per CCAA annual payment terms) would push the pro-forma payout ratio above 100%. Two developments warrant a reassessment of that analysis.

First, the CCAA-related impact on JTI-Macdonald's Canadian operations has been reflected in JT's FY2025 reported earnings. Second, the assumption that Russia profit is durably difficult to repatriate may not hold. The U.S. has been gradually easing sanctions on Russia, and Japan has historically maintained a less adversarial posture toward Russia than European nations. S&P Global Ratings, in its November 2024 outlook revision to negative, cited Russia cash repatriation risk as a key factor — but also identified "substantial improvement in the operating environment in Russia" as a condition for revising the outlook back to stable. If U.S. sanctions continue to be rolled back and Japan follows a similar trajectory, Russia's profit contribution reverts from headwind to tailwind for JT's dividend capacity.

Part V — Emerging Dynamics in FY2025

#1: PMI’s ZYN challenge exposes a deeper structural vulnerability — regulatory dependency as a competitive moat can cut both ways.

PMI’s extraordinary competitive position in nicotine pouches (62% can share in the U.S., 40% globally) was built partly on a genuine product advantage and partly on the FDA’s failure to authorize competitors’ products in a timely manner. The FDA’s new pilot program to streamline PMTA reviews for nicotine pouches — which both PMI’s ZYN Ultra and Altria’s on! PLUS flavors are participating in — could paradoxically be negative for ZYN’s relative position even as it validates the category. If the FDA authorizes BAT’s European Velo formulation and multiple on! PLUS flavor extensions, ZYN’s share of growth could decline meaningfully from the 50% level even as the category continues to expand. PMI’s Jacek Olczak tacitly acknowledged this: “what we want to see in the U.S. is a level playing field, because in a level playing field, we know that we can win.” The statement is confident — but the current share was won partly on an unlevel playing field. The 19x forward multiple prices in continued dominance. Any erosion in share trajectory could trigger a meaningful de-rating.

#2: The excise duty drawback is creating a hidden profitability tailwind for U.S.-exposed companies that distorts combustible comparisons.

Altria, BAT (through Reynolds), and now Imperial Brands are all pursuing excise duty drawback benefits from cigarette import/export activity. Altria’s CFO Sal Mancuso confirmed the payback period is less than a year. BAT’s Marroco stated Reynolds is “the #1 company in terms of volume of leaf purchase in the U.S. market” following over $200 million of manufacturing investment. IMB’s new CEO said they hope to see “a little benefit this year” with full ramp-up in FY2027. This means the reported U.S. combustible price/mix and margin figures for all three companies now include a non-trivial contribution from a regulatory incentive program that could theoretically be modified or eliminated. Investors comparing Altria’s 8.4% net price realization to historical trends should note that an unspecified portion is drawback-related. The structural implication: the drawback benefits are maximized by companies with both U.S. manufacturing and international operations (BAT has the clearest structural advantage here), while Altria has had to build international export capabilities from scratch through its KT&G partnership.

#3: JT’s exceptional FY2025 results, viewed through the lens of peer performance, reveal a business that overearned.

JT’s combustibles price/mix of 10.8% was roughly double the historical average. The company itself acknowledged that “the trend continued in 2025” regarding down-trading “but its impact was more limited than we’ve seen in recent history.” This is partly explained by favorable industry conditions in Russia and Turkey (two of JT’s four key EMA markets), where industry volumes were “compounded by an exceptionally resilient industry volume.” These conditions are unlikely to repeat — JT’s own guidance assumes total volume between flat and down 1% for 2026. When you normalize JT’s combustible performance to a sustainable pricing trend (mid-to-high single digits) and strip out the Vector Group’s non-recurring first-year contribution, the underlying CAGR of adjusted operating profit is closer to 5-6% at constant currency — not the 25% headline. The market appears anchored to the extraordinary 2025 result, pricing JT at ~18x forward earnings, which implies confidence in a growth trajectory that the evidence suggests will decelerate.

#4: Australia has become a universal headwind metric that discriminates between portfolio management philosophies.

Both BAT and IMB operate in Australia, where illicit products now represent 65% of the combustible market (per BAT’s estimates), and 85% of total nicotine consumption is illegal. BAT’s CEO described the situation as heading “towards 100% illegality.” For BAT, Australia is a diminishing drag — management stated the impact will be “not the same as ‘25” and will become “insignificant” over time. For IMB, the situation is different: the company has moved into the #1 market share position in Australia’s legal market, suggesting deliberate pricing and share decisions to extract maximum value from a shrinking but still profitable pool. This is consistent with IMB’s “challenger” philosophy of maximizing returns from focused positions. The broader insight: how each company manages market exits (Australia approaching this threshold, Russia for BAT/IMB, Canada for all) reveals fundamental differences in strategic discipline that affect long-term capital allocation efficiency.

Part VI — Valuation & Total Shareholder Return

The final ranking synthesizes everything above into a single framework: risk-adjusted total shareholder return at constant P/E, overlaid with re-rating probability.

The stacked bar below decomposes each company’s implied TSR into its constituent parts — dividend income, buyback accretion, and underlying profit growth. The composition reveals fundamentally different return profiles: IMB’s return is driven by capital return (dividend + buyback = ~11%), while PMI’s depends almost entirely on profit growth (~12%).

Let me explain the ranking logic:

#1 Imperial Brands: The Mechanical Advantage

IMB offers the highest certainty-adjusted TSR in the group. Its 3-5% adjusted operating profit growth guidance is conservative and underpinned by a proven pricing algorithm in combustibles. The 5-6% annual share count reduction at ~9x earnings is the most efficient buyback in the sector — effectively compounding EPS growth to ~9%+ without requiring heroic assumptions about NGP success or category creation. The ~5.4% dividend yield provides a floor that exceeds the risk-free rate by approximately 100 basis points.

The re-rating case is straightforward: if IMB’s P/E were to re-rate from 9x to 10x over three years — still below BAT’s 12x — that would add approximately 3% per annum to total returns, bringing the total TSR toward high-teens percentage. What would drive re-rating? Continued operational delivery, accelerating NGP revenue, and growing recognition that IMB’s “challenger business” model generates superior capital returns.

What would change my mind? If IMB’s combustible share in the U.S. or Germany showed sustained deterioration (more than 1 point annually), or if NGP losses expanded materially beyond the current run rate, the investment thesis would weaken. I would also reassess if the share price rose to 12x+ forward earnings, at which point the buyback effectiveness would diminish.

#2 British American Tobacco: The Re-Rating Opportunity

BAT is the company whose operational trajectory has improved the most since the original ranking. The U.S. turnaround, Velo Plus success, and category contribution growth of 77% represent genuine evidence of improved execution. The 2026 guidance for a return to the 3-5% revenue / 4-6% AOP / 5-8% EPS midterm algorithm, while at the lower end, would be the first time BAT has delivered on this framework in several years.

The re-rating case is compelling: BAT trades at approximately 12x forward earnings, a 40% discount to PMI. If execution on the midterm algorithm is consistent for 2-3 years, and if Velo’s European formulation receives U.S. FDA authorization, the discount could narrow materially. A move from 12x to 15x would add approximately 8% per annum to total returns.

The risks are not trivial. APMEA remains a drag (management expects stabilization but not recovery). The Canada CCAA settlement will increase net interest expense. And BAT’s heated tobacco business (glo) remains competitively challenged despite the Hilo and next-generation HYPER launches. I wrote about BAT’s APMEA challenges in my August 2025 analysis and the structural issues there have not been fully resolved — but the appointment of new regional leadership suggests management recognizes the urgency.

What would change my mind? If BAT’s U.S. combustible value share gains reversed, or if Velo Plus share momentum stalled, the re-rating thesis would lose its primary catalyst. Conversely, FDA authorization of BAT’s European Velo formulation in the U.S. would be a significant positive catalyst that could accelerate my upgrade.

#3 Philip Morris International: The Best Business at a Full Price

This is the most important change from the original ranking. I am not downgrading PMI as a business — it is unambiguously the best-positioned tobacco company for the next decade, with the largest smoke-free portfolio ($17 billion in revenue, 43.5 million users), the strongest brand equity (IQOS, ZYN, Marlboro), and the most sophisticated multi-category strategy (106 markets, 52 multi-category). The currency-neutral EPS growth of 14.2% in FY2025 and the renewed 2026-2028 targets (9-11% EPS CAGR) are best-in-class.

But quality and investment attractiveness are different things. At 19x forward earnings, PMI is priced for perfection. The implied TSR of approximately 16% (3.6% yield + 12% growth) is attractive in absolute terms, but it assumes every element of the algorithm delivers: IQOS continues to grow at high single digits, ZYN resolves its portfolio gap through FDA authorization, VEEV continues its international momentum, combustible pricing remains robust, and the yen and emerging market currencies don’t inflict outsized translation damage.

I have higher confidence in PMI’s execution than any other company in this ranking. If PMI delivers on its algorithm, the stock may return 15-16%. If any element underperforms (Japan excise headwind, ZYN share loss, regulatory delay on IQOS ILUMA U.S. launch), the de-rating risk from 19x could easily consume a year or more of underlying growth. When I analyzed PMI’s Q3 2025 results in October, I highlighted the underappreciated contribution of VEEV and international ZYN. That remains true, but the market has now priced in these growth vectors.

What would change my mind? If PMI’s valuation contracted to 15-16x forward earnings (through share price decline or earnings growth outpacing share price appreciation), I would upgrade it to #1 on the ranking. Alternatively, if ZYN Ultra receives FDA authorization and drives a material acceleration in U.S. category growth, the 19x multiple may prove justified.

#4 Altria: The Yield Play

Altria offers the highest dividend yield (~6.5%) with the most predictable underlying business. The smokeable segment is an extraordinary cash machine — $11 billion in OCI at 63%+ margins — and the remaining $1 billion under its share repurchase program provides incremental EPS support. The 2026 guidance of $5.56-$5.72 implies 2.5-5.5% growth, with upside from import/export activity scaling through the year.

But Altria lacks the re-rating catalysts that IMB and BAT possess. The smoke-free portfolio remains a work in progress: NJOY is impaired and absent from the market, on! PLUS is just beginning its national launch (with only three states in distribution as of early 2026), and the Ploom heated tobacco partnership with JT is pre-commercial. The U.S.-only geographic concentration, which is a structural advantage for pricing (Marlboro’s unassailable position) is a structural disadvantage for growth (100% exposure to the fastest-declining cigarette market among major developed economies).

The Marlboro brand remains remarkably resilient — growing premium share to 59.4% — but the total brand share decline of 1.2 points for the full year reflects the ongoing shift to discount. The Basic brand strategy to capture down-trading consumers is intelligent (deployed in only ~30,000 stores, using advanced analytics to minimize Marlboro cannibalization), but it’s defensive value protection rather than growth creation.

What would change my mind? A successful national launch of on! PLUS driving significant share gains (toward 15%+ of total oral) would meaningfully alter Altria’s growth profile. Similarly, if the illicit vape enforcement efforts described by CEO Billy Gifford materially reduce the disposable vape market, cigarette industry declines could moderate toward 6%, which would be significantly positive for Altria’s algorithm.

#5 Japan Tobacco: The Outlier Remains

My assessment of JT has not changed since the original ranking: the market is paying a premium for growth that is less sustainable than the headline suggests. At approximately 18x forward earnings, JT trades at a higher multiple than BAT (~12x) and IMB (~9x).

The bull case rests on three pillars: (1) the combustible business continues to outperform industry volume trends, (2) Ploom AURA drives heated tobacco share gains globally, and (3) the JPY 800 billion RRP investment creates a second growth engine. Each carries more execution risk than the multiple implies:

On combustibles, FY2025’s 10.8% price/mix was explicitly described as above historical norms, and volume growth benefited from Vector Group’s first full year and favorable industry dynamics in key EMA markets. The 2026 outlook assumes total volume between flat and down 1% — a deceleration from the 1.7% growth in 2025.

On Ploom, the AURA device is genuinely well-received (higher NPS, 58% of users new to franchise, 50% trial-to-retention rate). But JT faces the same competitive challenge that BAT confronts: IQOS ILUMA’s patented technology creates a structural product advantage in the premium segment. CEO Tsutsui acknowledged that JT is “still at the starting point in launching these new businesses.”

What would change my mind? If Ploom’s share of segment in Japan exceeded 20% sustainably (versus 16.5% in December), or if international Ploom markets demonstrated clear profitability trajectory, I would reassess. Also, if JT’s stock price corrected to 12-14x forward earnings, the risk-reward would become more balanced.

Thank you for reading. I hope this analysis adds value to your process. As always, the evidence leads the conclusion — not the other way around.

Disclosure: The author holds positions in BAT, PMI, and IMB. No position in Altria or Japan Tobacco. This article is for informational purposes only and does not constitute investment advice.

In my previous articles, I laid out the short-term FCF bridge for Diageo and the turnaround thesis under its new leadership. Those were focused, bottom-up analyses of a single company at an inflection point. This article takes a step back to examine the broader competitive landscape — ranking Diageo against its four most relevant peers: Brown-Forman, Pernod Ricard, Campari, and Rémy Cointreau.

The framework I use here mirrors the approach from my Big Tobaccos power ranking, adapted for the spirits industry. While spirits and tobacco share certain characteristics — pricing power, brand moats, recurring consumption — the differences are material enough that metrics and analytical angles cannot be copy-pasted. Spirits companies face genuine volume cyclicality, far greater competitive intensity, and a more complex interplay between on-trade and off-trade channels.

The overarching question is simple: In a cyclical downturn that has compressed valuations across the sector, which company offers the best risk-adjusted return over the next 3–5 years? To answer it, I will examine each company through the lens of revenue growth algorithms, economic moats, margin structures, balance sheet health, capital allocation discipline, and valuation.

Here is a summary snapshot, ranking the Big Spirits from #1 to #5 in each metric. Let’s go.

Summary Power Ranking

Part I — Revenue Growth Algorithm

The revenue growth of a spirits company decomposes into three drivers: volume, price, and mix (the shift toward or away from higher-priced products). Unlike tobacco, where volume decline is structural and pricing is the dominant growth lever, spirits companies depend on a more balanced equation. When volume growth stalls, pricing alone rarely compensates.

Organic revenue growth — latest reporting period:

• #1 Campari +2.4% (FY2025, calendar year)

• #2 Diageo +1.7% (FY2025, ended June 2025)

• #3 Brown-Forman ~flat (9M FY2026, ended January 2026)

• #4 Rémy Cointreau -1.9% (9M FY25/26, ended December 2025)

• #5 Pernod Ricard -6.0% (H1 FY2026, ended December 2025)

At first glance, Campari’s outperformance is striking. But context matters. Campari’s portfolio is skewed toward the aperitif category (Aperol, Campari, Sarti Rosa), which has benefited from a structural trend toward lighter, lower-ABV occasions — precisely the segment most resilient in a downturn. Its U.S. on-premise performance, where Aperol and Espolon posted +15% growth, is remarkable against a total distilled spirits market declining at low single digits.

Diageo’s +1.7% organic growth was delivered against the most challenging backdrop of the group: a U.S. spirits market that Lawson Whiting of Brown-Forman described as seeing “consumer confidence way down” and “total distilled spirits takeaway” bottoming around November 2025 before tentative green shoots appeared. The resilience came from Guinness (up 15% in North America), Don Julio, and Crown Royal, which carried the weight of a broader portfolio that includes challenged brands in scotch and tequila.

Pernod Ricard’s -6.0% organic decline was the most severe, but it is heavily distorted by inventory adjustments in the U.S. (sell-in down 15% vs. sell-out down 4–5%) and a 28% decline in China driven by a tightened regulatory environment impacting Martell. Excluding the U.S. and China, Pernod’s sales were broadly stable, with growth in India (+8% ex-Imperial Blue), Turkey (+27%), and Global Travel Retail.

The key insight: The dispersion in organic growth is largely a function of geographic and category mix inherited from decades of M&A, not current management execution. Just as in tobacco, understanding the structural drivers of each company’s growth algorithm prevents the error of extrapolating cyclical weakness into a permanent verdict.

Revenue Trajectory

Volume vs. Price/Mix Decomposition

Diageo reported +0.9% volume and +0.8% price/mix in FY2025. By H1 FY2026, this deteriorated to -0.9% volume and -1.9% price/mix — a worrying shift that signalled the depth of the U.S. downturn. New CEO Dave Lewis has been candid that consumers are facing a “very significant squeeze on disposable income,” with a U.S. CPG basket up 25% over five years while delivering 8% fewer items.

Rémy offers the starkest illustration of price/mix pressure. Over 9 months, it posted +4.5% volume growth but -6.4% price/mix — reflecting aggressive promotional activity in China and price repositioning in the U.S. to address Cognac’s premium positioning in a down-trading market. This is the Achilles’ heel of a luxury-oriented spirits portfolio in a consumer recession.

Brown-Forman’s Lawson Whiting provided the most useful industry-level data: U.S. total distilled spirits pricing was down approximately 1 point over the most recent 13-week period, with Tequila down 2 points and American Whiskey down just 0.5 points. Brown-Forman itself was down less than 0.5 points, reflecting the relative discipline of major players. “The big players in spirits are being pretty rational with their pricing strategies,” he noted.

The post-COVID shift in the channel mix structurally improves the spirits industry’s pricing power. On-trade consumption has not fully recovered to pre-COVID levels, while off-trade has retained a structurally elevated share — a pattern Dave Lewis acknowledged directly in Diageo’s latest results. Off-trade spirits demand is less price-elastic (approximately -0.4 to -0.5) than on-trade demand (-0.6 to -0.8), because off-trade purchases are more habitual, more brand-loyal, and less conditioned by promotional mechanisms like happy hours and menu-based pricing. As volume shifts toward the less elastic channel, the category's blended price elasticity improves. A spirits company raising prices by 5% today will lose fewer volume points than it would have in 2019, simply because a larger share of its volume now sits in the channel where consumers are less responsive to price changes.

This structural tailwind is real but currently invisible — masked by the downtrading environment. The headline revenue weakness across the sector is not primarily a price elasticity story; consumers are not rejecting price increases by buying less spirits. They are accepting the prices but switching from premium to value expressions within the category. The distinction matters enormously for long-term investors. Price elasticity is a structural constraint on the industry — if consumers won’t pay more, the growth algorithm is broken. Downtrading is a cyclical phenomenon driven by real income compression — when disposable income recovers, consumers trade back up. The channel mix data suggests that the structural pricing power of spirits has actually improved since 2019. What the sector is experiencing today is a cyclical mix headwind atop a secular elasticity tailwind — and the market, reading the weak headline numbers, is pricing in the former while ignoring the latter.

Part II — Economic Moats & Brand Portfolio

A good business has a wide moat. A great investment buys that business when the moat is intact but temporarily obscured by cyclical fog. The spirits industry possesses one of the most underappreciated moats in consumer staples: aged inventory.

Consider that a bottle of Johnnie Walker Blue requires whiskies aged a minimum of approximately 15–25 years. A bottle of Rémy Martin XO requires eaux-de-vie aged at least 10 years. A newcomer cannot simply decide to compete in these segments — they need to have made the liquid a decade or more ago. This time-locked barrier to entry is analogous to a natural resource concession and is a key reason why spirits companies can maintain pricing power in premium and super-premium segments.

Portfolio positioning across the price spectrum:

• Rémy Cointreau is the most premium-skewed, with Cognac comprising 61% of sales and Louis XIII at the apex. Its gross margin of 70.6% — 10 percentage points above peers — reflects this positioning. The trade-off is severe cyclicality.

• Diageo has the broadest portfolio by far, spanning from value (Smirnoff, Captain Morgan) to ultra-premium (Don Julio 1942, Johnnie Walker Blue) to beer (Guinness). New CEO Lewis identified this breadth as both a challenge and an opportunity, noting that in U.S. spirits, 21% of the market is sold at $45+ and Diageo’s share of that segment is 31% — but below $10, Diageo contributes only 5% vs. 9% for the market. He is right that there is “white space” in accessibility.

• Brown-Forman is the most concentrated, with Jack Daniel’s family accounting for the majority of revenue. This gives it unmatched scale in American Whiskey but leaves it vulnerable to category-specific headwinds. Encouragingly, the Whiskey category is down just 0.5 points in pricing vs. 2 points for Tequila.

• Pernod Ricard has the most geographically balanced portfolio, with five “billionaire brands” (Jameson, Martell, Chivas, Absolut, Ballantine’s) and approximately 50% of revenue from emerging markets. This is a genuine competitive advantage, though the China/Martell concentration has proved painful.

• Campari has the most differentiated positioning, with Aperol creating an entirely new consumption occasion (the Spritz) that barely existed 15 years ago. This “category creation” moat is powerful because Campari is not competing for share in a fixed pie — it is expanding the pie.

Part III — Income Statement: Margins & Efficiency

Profitability Comparison (Latest FY)

Gross Margin:

Rémy’s 70.6% gross margin sits in a league of its own, reflecting the premium pricing of Cognac. Among the remaining four, gross margins cluster tightly between 58.9% (Brown-Forman) and 60.4% (Diageo). There is no structural advantage at this level — the differences are driven by category mix and geography.

EBIT Margin:

The more revealing metric is EBIT margin, where the gap between the top two (Brown-Forman at 29.2%, Diageo at 28.3%) and the bottom two (Rémy at 22.0%, Campari at 21.0%) is material. This reflects the operating leverage of scale. Diageo’s $20bn revenue base absorbs corporate overhead far more efficiently than Rémy’s ~€1.2bn, even if Rémy’s gross margin is superior.

Diageo’s EBIT margin, however, has been compressing — down from 32% in FY2019 to 28.3% in FY2025. This is primarily driven by elevated A&P spending, higher capex depreciation, and the dilutive impact of lower-margin geographies and categories growing faster than the group average. The Accelerate programme, now targeting $625 million in cumulative savings, is designed to arrest and reverse this compression.

Cost Efficiency & AI:

Spirits companies spend aggressively on marketing — Diageo allocates £3.7bn annually, Pernod Ricard ~€1.6bn. AI is now compressing the non-working component of this spend (creative production, campaign adaptation, packaging design) at unprecedented speed.

• Diageo has cut creative development costs from 21% to 14% of its marketing budget, targeting 10% — implying over £400m in savings on its A&P base. Its virtual content studio uses AI across 34 major brands to produce locally adapted content globally, halving CPM in digital advertising.

• Pernod Ricard reduced the development cost of its latest Glenlivet campaign by 80% using its generative AI tool, Genie, and reports 1.5–4.5% sales lifts and up to 15% marketing efficiency gains from AI deployment broadly.

• Campari is targeting 10–15% A&P efficiency gains (~€50m).

• Brown-Forman and Rémy Cointreau lag meaningfully — Rémy’s CTO acknowledged that “our competitors are ten times bigger than us,” and the company has yet to demonstrate comparable content creation savings.

This advantage accrues to scale. AI tools have high fixed development costs but near-zero marginal cost of deployment across additional brands and markets. Adapting a Johnnie Walker campaign for 12 languages is marginal once Diageo’s infrastructure exists. Rémy cannot replicate this economics with ~€1.2bn in revenue.

The deeper insight is about competitive dynamics. A slowing industry with fewer new entrants shifts consumer behaviour from brand discovery to habitual purchasing — particularly in the off-trade channel. When consumers are reaching for the same bottle they bought last month rather than exploring new brands, the required intensity of awareness-driven advertising structurally declines. AI-driven efficiency gains are therefore arriving at precisely the moment the industry needs heavy advertising least. The two forces compound: AI reduces the cost per unit of marketing output, while weakening competitive pressure reduces the quantity required. Margins can expand even if revenue stays subdued, because maintaining brand equity in a habitual-purchase category costs permanently less than building it in a discovery-driven one.

The risk: AI efficiency pursued too aggressively homogenises marketing and erodes brand distinctiveness. For a category built on heritage and storytelling, the balance between efficiency and creative authenticity will separate the winners.

Part IV — Balance Sheet & Cash Flow

Balance Sheet: Leverage Comparison

Leverage (Net Debt / EBITDA):

• #1 Brown-Forman 1.85x — Conservatively managed, family-controlled

• #2 Campari 2.58x — Deleveraged rapidly from 3.6x post-Courvoisier acquisition

• #3 Rémy Cointreau 2.56x — Historically volatile but now under control

• #4 Pernod Ricard 3.20x — Elevated; targeting below 3.0x by FY2029

• #5 Diageo 3.43x — Highest among peers; the key risk factor

Diageo’s leverage is the elephant in the room. At 3.43x, it is uncomfortably high for a company facing cyclical headwinds. The new dividend policy (30–50% payout) was a necessary but painful decision to create financial flexibility. The good news is that the deleveraging path is clear: the EABL disposal (expected to reduce leverage by 0.25 turns), the RCB disposal by United Spirits ($1.78bn), capex normalisation, and organic EBITDA growth should bring leverage toward 2.5x by FY2028.

Capital Intensity & Cash Conversion

Capex Intensity:

Diageo’s 7.7% capex-to-revenue ratio is the critical inefficiency in its current cash flow algorithm. For context, Pernod operates at 3.9% and Brown-Forman at 5.4%. Diageo’s management has guided for capex to decline toward “mid-single digit percentage of net sales” over the next three years. As I showed in my previous article, capex normalisation alone accounts for 55% of the $824 million FCF bridge from $2.7bn to ~$3.6bn by FY2028.

Maturing Inventory — The Hidden Tailwind:

A unique feature of spirits accounting is the cash flow impact of maturing stock. When whisky is laid down, the cash outflow hits immediately but doesn’t convert to revenue for 4–15+ years. Diageo invested $577 million in maturing stock in FY2023, $368 million in FY2025, and this is normalising further. When this liquid eventually reaches maturity and is bottled, it becomes a multi-year earnings tailwind without requiring additional capital investment.

Brown-Forman faces a version of this challenge in reverse: barrels laid down in 2021–2022, during the post-COVID cost spike, are now being “dumped” (industry term for emptying barrels for bottling) at elevated cost, creating a 100–150bps gross margin headwind over the next two years. This is a known, time-limited challenge.

Part V — Capital Allocation: The Ultimate Differentiator

The quality of capital allocation separates good companies from great investments. In this cycle, the differences are stark.

Diageo has made the most aggressive capital allocation pivot. The dividend cut (from ~60% payout to 30–50%), combined with the EABL and RCB disposals, is redirecting capital toward balance sheet repair, Guinness capacity expansion, and portfolio competitiveness. Dave Lewis’s willingness to cut the dividend, while painful, signals financial discipline. His comment that “I was taught very early in my career that you don’t take percentages to the bank, you take cash to the bank” is the clearest articulation of value-oriented thinking I’ve heard from a spirits CEO.

Campari increased its dividend payout to 35% (from ~25%), signalling confidence in its cash generation. It is also the most disciplined on M&A, explicitly pausing bolt-on acquisitions to focus on organic growth and the Courvoisier integration.

Brown-Forman remains the most conservative, maintaining its “dividend aristocrat” status with 50+ years of consecutive increases. As a family-controlled company, it is unlikely to pursue transformational M&A.

Pernod Ricard is focused on deleveraging, with net debt/EBITDA at 3.8x (adjusted). It has lowered strategic investment guidance to €750m for FY2026 (from €900m) and no more than €800m annually through FY2029 — a cumulative €800m benefit to FCF versus previous guidance.

Rémy Cointreau faces the most constrained capital allocation. Its transformation programme is in the diagnostic phase, and while the CFO emphasised that “free cash flow conversion will be more important than in the past,” the company’s smaller scale limits its degrees of freedom.

How much is priced in?

Diageo’s recent corporate actions — the EABL disposal, USL’s RCB disposal, the dividend cut — all support the deleveraging plan, but the share price (at ~11.4x NTM P/E) suggests that most of the turnaround-execution reward is NOT priced in. The market is pricing Diageo as a value stock, not a quality compounder. If the Accelerate programme delivers and revenue stabilises, there is scope for a P/E re-rating toward 14–15x (anchored by 10% annual FCF growth through FY2028 and FCF yield compression to 6%), which would add 20–30% to the current share price on top of FCF growth and dividends.

Part VI — The Downcycle: Historical Context

Cyclical Context: Spirits Industry Downcycles

The current spirits downcycle, now roughly eight quarters old, differs from the 2008–09 GFC downturn in important ways. During the GFC, spirits volume decline was sharp but brief — demand recovered within two quarters as monetary stimulus restored confidence. The current downcycle is driven by a more diffuse set of headwinds: post-COVID normalisation of at-home consumption, real income erosion from inflation, health and moderation trends (including GLP-1 drugs), and category-specific overcapacity (particularly in U.S. Tequila and Cognac in China).

Post-COVID consumption patterns have shifted structurally:

• At-home consumption rose during COVID and has partially retained its elevated share, boosting off-trade volumes but at lower price realisation per serve.

• RTDs have gained significant share, particularly among younger consumers who value convenience, consistency, and lower out-of-pocket cost. This is a permanent category shift, not a fad.

• Health moderation is real but modest in its impact on spirits specifically. Diageo’s new CEO cited research showing that for spirits, “the impact from GLP-1s is really rather small.” The serves-per-occasion metric is declining, but penetration and frequency are stable or increasing.

• Gen Z is entering the spirits category later but through RTDs, which serve as a gateway. Brown-Forman’s Whiting noted this pattern explicitly.

Can Diageo exit this downcycle stronger than it entered? I believe yes, for three reasons: (1) the Accelerate programme is restructuring costs at a pace that will outlast the downturn; (2) Guinness capacity expansion positions Diageo to capture the strongest brand momentum it has had in decades; and (3) the new capital allocation framework (lower capex, lower payout, disposal proceeds) creates a structural improvement in FCF conversion that is independent of revenue growth.

Part VII — The Long-Term FCF Algorithm

In my previous article, I showed that 83% of the required FCF growth from $2.7bn to ~$3.6bn over three years comes from high-certainty levers — capex normalisation and cost savings — with only 17% requiring gross profit growth of 0.5% per annum.

But what about beyond FY2028? Here is how I think about the longer-term algorithm:

• Organic revenue growth: 2–4% per annum, driven by emerging markets, Guinness geographic expansion, and premiumisation normalising. This is modestly below the consensus mid-single-digit aspiration but reflects the structural headwinds from health moderation and lower category growth in developed markets.

• Margin expansion: 30–50bps per annum from mix improvement (Guinness, Don Julio, and super-premium brands growing faster) and continued operational efficiency. The AI-driven A&P efficiency gains are structural and should compound.

• Capex: Normalising to 4–5% of revenue as the current capacity build cycle concludes. Guinness Kildare coming online in H2 2026 is the last major investment.

• FCF conversion: Improving from ~60% today toward 80%+ as capex and maturing inventory normalise. Maturing stock laid down during 2020–2022 will convert to revenue from FY2027 onwards.

• Net result: Mid-to-high single digit FCF growth, sustainably, with periodic acceleration from working capital release and disposal proceeds.

Where I agree with the market: revenue growth will be modest for the next 12–18 months. The U.S. spirits market may not return to pre-COVID growth rates this decade.

Where I differ: the market is underestimating the magnitude and durability of the FCF improvement from capex normalisation and cost efficiency. These are not one-off benefits — they represent a permanent reset of Diageo’s cash flow profile.

Part VIII — Valuation

NTM P/E (Close, March 23, 2026):

• Pernod Ricard: 10.66x

• Diageo: 11.37x

• Brown-Forman: 13.55x

• Campari: 18.95x

• Rémy Cointreau: 20.48x

The sector has de-rated violently from the 2021 peak, when Diageo traded at 29x NTM earnings and Campari at 43x. Today’s multiples embed significant pessimism about the recovery trajectory.

Return Framework: What Needs to Go Right?

In tobacco, I use an implied total shareholder return framework — dividend yield plus EPS growth assuming a stable P/E — because the earnings algorithm is quasi-mechanical and the valuation multiple is relatively stable. That framework does not translate well to the spirits sector at this point in the cycle. When I am arguing a turnaround thesis, both the earnings trajectory and the valuation multiple become moving parts. Projecting returns under a constant P/E assumption would systematically understate the opportunity for the companies most likely to re-rate and overstate it for those whose depressed earnings base artificially flatters the implied growth rate.

Instead, the more useful question is: what needs to go right for each company, and how much of it is within management’s control?

For Diageo, the return over a 3-year horizon has three components. The first is the FCF bridge — from $2.7bn to approximately $3.6bn by FY2028 — of which 83% depends on capex normalisation and cost savings already running ahead of plan. This is largely within management’s control. The second is the dividend, which at the new 30–50% payout policy provides a modest but protected yield. The third — and the component the market is not pricing — is the potential P/E re-rating from ~11.4x toward 14–15x as the market reclassifies Diageo from a value stock back to a quality compounder. This re-rating is contingent on visible evidence that the Accelerate programme is delivering and that revenue has stabilised, but it does not require a return to pre-COVID growth rates. The combination of these three components implies a total return opportunity that is materially higher than what a static TSR framework would suggest.

For Pernod Ricard, at 10.7x NTM P/E, the return depends more heavily on revenue recovery — particularly the normalisation of U.S. inventory levels and stabilisation in China. Both are largely outside management’s control, which makes the thesis less attractive on a risk-adjusted basis despite the optically cheap multiple.

For Rémy Cointreau, at 20.5x NTM P/E, the multiple already embeds recovery expectations despite the most depressed earnings base in the peer group. The return requires both a material earnings recovery and the maintenance of a premium multiple through that recovery — two conditions that must hold simultaneously for the investment to work.

For Campari, at 19.0x, the premium is more defensible given its structural growth in aperitifs, but the multiple leaves less margin for error if the on-trade recovery is slower than expected.

For Brown-Forman, at 13.6x, the multiple reflects the conservatism of a family-controlled company with limited capital allocation optionality. The return is steadier but lower-ceiling.

The key distinction is that Diageo’s return depends least on the unknowable. Its FCF improvement is driven primarily by internal levers — capex reduction, cost savings, and asset disposals — not by a recovery in the global spirits market that may or may not materialise on schedule. At 11.4x NTM earnings, the market is pricing Diageo as if these internal improvements will not deliver, which creates an asymmetry between the downside (protected by high-certainty FCF levers) and the upside (enhanced by re-rating if they do).

Conclusion

The spirits industry is in the deepest cyclical trough in over a decade. Every company in this analysis is feeling the strain — from Rémy’s -20% 2-year revenue CAGR to Pernod’s 3.8x leverage to Diageo’s compressed margins. But cyclical pain creates opportunity for patient investors who can distinguish between temporary headwinds and permanent impairment.

Diageo is not the best at anything in this ranking — it is #2 in organic growth, #2 in EBIT margin, #2 in return on capital, #2 in NTM P/E. But it is consistently near the top of every metric, and it is the only company undergoing a genuine operational transformation under new leadership with a clear, financially disciplined plan. The combination of a structural FCF inflection, a depressed valuation, and a portfolio anchored by the world’s fastest-growing beer brand (Guinness) makes it the most compelling risk-reward in the sector.

The best investments are those where the outcome depends least on the unknowable. Diageo’s turnaround depends primarily on management executing a capex reduction and cost programme that is already running ahead of plan. That is approximately right — and far better than being precisely wrong about a recovery in the global spirits market that may or may not materialise on schedule.

The most compelling investment opportunities are those where the outcome depends least on the unknowable. In my previous article (Diageo’s Turnaround: A Problem Well-Defined is a Problem Half-Solved), I argued that the most important development at Diageo was the correct definition of the problem. Now, with the FY2026 interim results in hand, I want to take this further. A problem well-defined may be half-solved, but it still needs solving. The question is: does the math work?

I believe it does. And what makes the case particularly attractive is not the magnitude of the potential return but the degree of certainty attached to the drivers behind it.

FY2026 Interim: Early Validation

The FY2026 interim results confirm the operational inflection is materialising. The Accelerate programme is running ahead of plan: management now expects 50% of the $625 million in savings to be delivered in FY26 alone, with 40% of the FY26 target already captured in H1. Capital expenditure discipline is holding, with FY26 guidance of $1.2–1.3 billion, down from $1.5 billion in FY25. First-half free cash flow reached $1,532 million, and the full-year target of ~$3 billion appears well within reach.

But the question that matters is not whether FY26 will be better than FY25 — the market expects that. The question is whether the structural improvement in cash generation is durable, and how much is already locked in.

The FCF Bridge: From $2.7 Billion to $3.6 Billion

I have constructed a free cash flow bridge from FY2025 to FY2028 targeting 30% cumulative FCF growth: from $2,748 million to approximately $3,572 million. It is a hypothetical scenario that requires $824 million in incremental free cash flow, delivered by three levers with different levels of certainty.

Lever 1: Capital Expenditure Normalisation

HIGH CERTAINTY | 55% OF BRIDGE

At ~8% of net sales in FY2025, Diageo’s capex is nearly double the pre-COVID average of ~5%. This was driven by aggressive capacity expansion — bourbon distilling in Kentucky, tequila distillation in Mexico, scotch warehousing in Scotland — poorly timed with the subsequent demand slowdown.

Assuming normalisation to 5.5% by FY2028 — still above the pre-COVID average — capex would fall to ~$1.1 billion, a $450 million FCF improvement. This single lever accounts for 55% of the entire bridge.

“In fiscal 25, capex was c.7.7% of net sales, we expect this will reduce over the next three years toward a mid-single-digit percentage of net sales.”

— Nik Jhangiani, Interim CEO

Lever 2: The Accelerate Programme

HIGH CERTAINTY | 28% OF BRIDGE

The cost-efficiency programme targets $625 million in savings over three years, with ~50% flowing to the bottom line. On an after-tax basis (25% effective tax rate), the profit contribution is approximately $234 million, or 28% of the FCF bridge.

Execution evidence is strong. A&P non-working media costs were cut from 21% of A&P in FY2024 to 14% in FY2025, targeting ~10%. This is about spending smarter, not less — leveraging AI and data analytics to improve the return on every marketing dollar.

Lever 3: Gross Profit Growth

MODERATE CERTAINTY | 17% OF BRIDGE

The remaining $140 million must come from gross profit growth. On a pre-tax basis, this equates to ~$187 million over three years, or approximately 0.5% growth per annum.

This is deliberately conservative. Guinness capacity is expanding by 30% with the Kildare brewery online in H2 2026. Don Julio and Crown Royal continue to take share. The strategic pivot toward volume-accretive opportunities — RTDs, broader tequila segments, Guinness 0.0 — creates additional growth vectors this framework does not require. If gross profit grows by more than 0.5% per annum, the bridge is crossed with room to spare.

💡Conservative Assumptions:

I assume no further benefit from working capital rationalisation (FY25 maturing stock outflow already down to $368m from $577m in FY23). I also assume benefits of lower interest expenses from deleveraging are largely offset by reduced operating cashflow from asset disposals. The analysis does not depend on optimistic assumptions beyond the three stated levers.

What I Like About This Math

1. 83% of the 30% FCF growth comes from high certainty, low execution risk levers (capex reduction + Accelerate).

2. 77% of the 39% market cap appreciation comes from FCF growth, not multiple expansion (see below).

3. ~33% post-cut dividend payout ratio implies greater upside than downside to the return algorithm.

The Return Algorithm

If FCF reaches ~$3.6 billion by FY2028, with leverage falling to ~2.5x net debt/EBITDA, a 6% FCF yield is reasonable for a defensive, non-cyclical global franchise. That implies a market capitalisation of ~$60 billion — a 39% increase from today’s ~$43 billion (~11.5% p.a.). Adding ~2.5% dividend yield, total 3-year return approaches 47%.

Even if FCF grows by only 20% and the valuation fails to re-rate (6.5% yield), total return still approaches 26%. Conversely, if gross profit modestly exceeds my base case and the market rewards improved cash conversion with a 5.5% yield, total returns exceed 60%.

Risks

• Revenue headwinds persist. The U.S. spirits market remains sluggish; the sequential decline in North American share in H2 FY2025 is a yellow flag. If organic growth turns negative for a sustained period, even 0.5% gross profit growth may prove elusive.

• Accelerate execution. $625 million in cumulative savings requires sustained discipline. Management turnover or strategic pivots could slow delivery.

• Brand dilution. The shift toward volume-inclusive categories is commercially rational but risks diluting premium brand equity if not handled carefully.

• Capex surprises. Management has noted consensus capex estimates may be “on the low side” for Guinness. Further capacity investment could partially unwind this lever.

• External shocks. Tariffs, currency movements, and macro deterioration could weigh on reported results.

These risks are real. But the structure of the thesis — with 83% driven by high-certainty levers — means the case is not contingent on every variable breaking favourably. It requires only that capex normalises (guided), cost savings materialise (being delivered), and gross profit doesn’t actively decline.

Conclusion

83% of the required FCF growth comes from capex normalisation and cost savings — programmes that are guided, in execution, and running ahead of plan. The remaining 17% requires only that Diageo grows its gross profit by 0.5% per year. For a company with Guinness, Johnnie Walker, Don Julio, and Crown Royal, this is not a heroic assumption.

The share price today implies the market does not believe in the durability of these improvements. I have done the arithmetic, and I believe the bridge is built on solid ground.

p.s. I am adding to my position.

Most sell-side notes on British American Tobacco (BAT) and Philip Morris International (PMI) focus on the same tired metrics: next-generation product (NGP) adoption rates, pricing variance, and combustible market share. But for institutional investors allocating capital across a multi-year horizon, there is a structural dimension to the growth algorithm that is almost entirely ignored by the broader investment community.

Today, I am shifting the focus away from category-level and country-level growth to examine a systemic drag on BAT’s valuation: the structural disadvantage of market exits and capital flight driven by geopolitical identity and ESG ideology.

Through my research, it has become evident that BAT is systematically disadvantaged in its long-term growth due to forced market exits and European-centric ESG mandates—a burden that PMI, by virtue of its corporate passport, largely avoids. If we want to understand the true divergence in valuation and long-term volume trajectories between these two giants, we must look at them through a quantitative, geopolitical lens.

The Illusion of “Like-for-Like” Growth: Crunching the 10-Year Data

Management teams love “organic” and “like-for-like” metrics because they smooth over the ugly realities of footprint contraction. BAT management frequently points to flat or slightly positive volume share growth in its annual disclosures to reassure the market.

If you look at BAT’s earnings announcements over the last several years, the reported market share metrics paint a picture of a highly resilient portfolio. In its Key Markets, BAT reported volume share gains of +40 bps in 2018, +20 bps in 2019, +30 bps in 2020, and +10 bps in 2021. Even in recent years, share has remained largely flat or shown marginal movements (−10 bps in 2022 and 2023, +10 bps in 2024, and flat in 2025).

If market share is generally growing or stable, BAT’s volume decline should closely mirror the global industry decline, which has historically hovered around −2.0% to −3.5% annually.

The actual reported data tells a drastically different story.

Let’s look at the absolute numbers from BAT’s own financial statements. In 2018, following the full integration of Reynolds American, BAT reported a total combustible cigarette volume of 701 billion sticks. By the end of 2025, that number had plummeted to 465 billion sticks.

This represents an absolute volume collapse of 33.6% over a seven-year period, translating to a compound annual decline rate of roughly −5.6%.

How does a company with stable “like-for-like” market share lose volume at nearly double the rate of the global industry decline? The answer lies in the denominator: market access shrinkage.

If BAT had simply declined in line with the global industry average of roughly −3.0% over this seven-year period, its volume would have dropped by approximately 19%, leaving them with roughly 568 billion sticks today. The delta between this expected volume and their actual 2025 volume is a staggering 103 billion sticks.

This 103 billion stick gap—representing nearly 15% of their entire 2018 volume base—cannot be explained by organic market share losses or consumer downtrading. It is the quantifiable, phantom bleed of market exits. Over the last decade, BAT has suffered a systematic attrition of market access: Russia, Belarus, Iran, Myanmar, Egypt, Mali, and Cuba, just to name a few. The 2023 exit from Russia and Belarus alone wiped out approximately 23 billion sticks of annual volume.

When you strip away the accounting adjustments, the reality is stark: market access shrinkage has a far greater negative impact on BAT’s top line than any organic market share movement in individual countries. This persistent shrinkage is the key reason BAT consistently misses longer-term revenue and earnings growth forecasts, lagging significantly behind PMI, which has consistently offset combustible declines with explosive smoke-free volume growth, driving overall positive shipment volumes in recent years.

The Burden of the UK Identity vs. US/Swiss Pragmatism

This footprint attrition is not just bad luck. It is a structural disadvantage tied directly to BAT’s corporate identity.

Despite having a negligible consumer business in the UK, BAT is inextricably tethered to its London headquarters and its identity as a British multinational. In an increasingly multipolar and polarised world, being a UK company has become a geopolitical liability.

The UK consistently adopts a “back-foot” approach during geopolitical crises, upholding rigid moral standards that tie the hands of its corporations. Take the Russia-Ukraine conflict as the prime example. Following the invasion, the UK government strictly prohibited UK companies from providing professional services—such as administrative, accounting, and legal services—to Russian entities.

This mandate made it operationally and legally impossible for UK headquarters to effectively control their Russian subsidiaries. Directors of UK firms were suddenly exposed to uninsurable legal risks for any wrongdoing by local subsidiaries they could no longer manage. This forced BAT into an involuntary and highly value-destructive exit, resulting in a £612 million impairment charge and the forfeiture of a highly profitable business unit.

Meanwhile, PMI—benefiting from its US heritage and Swiss domicile—continues to operate in Russia. The US approach to geopolitics is fundamentally pragmatic. We see this in the recent US manoeuvres in Venezuela, easing sanctions to secure energy interests, and we will likely see it as the Russia-Ukraine war concludes. PMI’s growth algorithm does not suffer the same artificial amputation because its home governments prioritise economic pragmatism over moral posturing.

The ESG Wedge and the Cost of Ideology

This geopolitical burden bleeds directly into the capital markets via ESG mandates, which disproportionately affect European asset managers compared to their US counterparts.

European ESG regulations (such as the SFDR) have forced institutional capital out of tobacco and fossil fuels at an unprecedented scale. The financial penalty for this ideology is severe and highly quantifiable. While BAT has seen some recent multiple expansion, it still trades at a heavily discounted forward P/E of roughly 12.0x as of early 2026. Meanwhile, PMI—buoyed by US investors who prioritize fiduciary duty and fund performance over exclusionary mandates—commands a forward multiple of 22.0x. This represents a staggering valuation discount of roughly 45% for BAT, despite both companies operating in the exact same global industry.

Conversely, pragmatic US investors have capitalized on this European ideological discount. Institutions like The Capital Group progressively built stakes exceeding 18% of BAT’s shares outstanding by mid-2025, hoarding BAT shares at discounted prices and locking in dividend yields that, while recently compressed to 5.3%, historically approached double digits.

We see the exact same dynamic destroying shareholder value in the energy sector. UK oil majors are pressured by European shareholders and governments into funneling billions into low-return ESG initiatives. BP, for instance, committed to spending up to $8 billion annually on “transition” businesses by 2030, while Shell earmarked $10 to $15 billion between 2023 and 2025 for low-carbon projects.

The math on these investments is highly dilutive. Clean energy projects typically yield unlevered internal rates of return (IRRs) of just 6% to 8%. Meanwhile, US giants like ExxonMobil and Chevron double down on highly profitable oil exploration, where upstream IRRs routinely exceed 15% to 20%.

The financial reporting for full-year 2025 perfectly quantifies this divergence in profitability and growth. Because US majors focus on high-IRR core businesses rather than low-IRR ideological projects, they are significantly more profitable and grow faster. In 2025, Exxon generated $28.8 billion in net income, with upstream production hitting a four-decade high of 4.7 million oil-equivalent barrels per day.

BP, bogged down by transition costs and flat underlying production, reported a shocking full-year net income of just $55 million for 2025. This near-zero bottom line was directly caused by roughly $4 billion in Q4 impairments tied to its transition and low-carbon energy businesses. Even looking at BP’s adjusted underlying replacement cost profit of $7.5 billion, it remains a fraction of its US counterpart’s earnings.

The market’s reward for this pragmatism is undeniable: as of March 2026, Chevron and Exxon trade at forward P/E multiples ranging from 14x to 24x, while BP and Shell languish at 11x to 13x. The UK corporate identity systematically destroys shareholder value without us even noticing its invisible hand in the boardroom.

Conclusion: Underwriting the Geopolitical Discount

What does this mean for institutional investors allocating capital in the tobacco space?

While BAT is perfectly capable of delivering on its near-term revenue and earnings estimates through aggressive pricing, cost-cutting, and share buybacks, investors must not be overly optimistic about its longer-term growth algorithm.

When modelling BAT, you cannot simply look at “organic” volume declines. You must underwrite the perpetual risk of shrinking market access. We live in an increasingly polarised world, and this risk is pronounced for UK-domiciled firms. Even if we assume, for illustrative purposes, that a UK firm and a US/Swiss firm have identical profitability and organic growth metrics, the UK firm structurally deserves a valuation discount.

The ethical burdens, ESG mandates, and geopolitical rigidity tied to the UK identity are real, quantifiable drags on long-term compounding—costing the company over 100 billion sticks in volume over the last seven years and compressing its valuation multiple by 45% relative to its closest peer. In today’s market, a corporate passport matters just as much as the product portfolio.

Philip Morris International (PMI) reported its Q3 2025 earnings this week, and the market’s reaction was lukewarm at best. Despite beating EPS expectations and raising the full-year forecast, the stock wobbled. This reaction seems paradoxical on the surface, but it points to a deeper recalibration of expectations, particularly around the company’s star growth engine, ZYN nicotine pouches in the U.S.

In this post, I’ll first summarize the headline results. Then, I’ll analyze the negative share price reaction by digging into the issues that analysts scrutinized during the earnings call. Finally, I’ll offer my verdict on what this quarter truly means for the long-term investment case.

1. The Q3 2025 Earnings in a Nutshell

PMI delivered what appeared to be a very strong quarter. The company continued to execute on its smoke-free transformation, with its portfolio of heated tobacco, nicotine pouches, and e-vapor products driving growth.

Key Financial Highlights:

• Earnings Beat: Reported Diluted EPS grew 13.2% to $2.23, while Adjusted Diluted EPS grew an impressive 17.3% to $2.24 (beating consensus expectations of $2.09).

• Strong Top-Line Growth: Net revenues grew 9.4% to $10.8 billion, or 5.9% on an organic basis.

• Smoke-Free Momentum: The Smoke-Free Business (SFB) was the star, with net revenues growing 17.7% (13.9% organically). It now accounts for 41% of total net revenues and over 42% of total gross profit.

• Guidance Update: PMI raised its full-year adjusted diluted EPS growth forecast to a range of 13.5% - 15.1% in dollar terms. However, it also revised its organic operating income (OI) growth guidance downward to 10.0% - 11.5% (from 11.0% - 12.5% previously).

Key Operational Highlights:

• IQOS: Heated Tobacco Unit (HTU) shipment volumes grew 15.5%. Adjusted in-market sales (IMS) grew 9.0% against a tough prior-year comparison, showing continued strength in Europe and Japan.

• ZYN: U.S. shipment volumes grew 37% to 205 million cans, with offtake growth accelerating to a remarkable 39% in Q3, driven by a “relaunch” promotional campaign.

• VEEV: The e-vapor brand continued its strong momentum with shipment volumes growing 91.0%.

• Combustibles: Despite a 3.2% decline in shipment volume, the segment delivered robust gross profit growth of 7.7%, fueled by strong pricing. Marlboro reached its highest quarterly market share since the 2008 spin-off.

On paper, these are excellent results. So why the muted market reaction? The devil is in the details and the outlook.

2. Why the Negative Reaction? A Look Under the Hood

The post-earnings stock performance suggests investors looked past the headline beat and focused on the underlying cracks that appeared this quarter. The earnings call Q&A was revealing, with analysts repeatedly probing the sustainability of ZYN‘s growth, the impact of promotions, and the revised guidance.

The central drama revolves around ZYN in the U.S. In September, PMI launched a significant promotional campaign to mark ZYN‘s return to full supply. This included a special offer where adult consumers purchasing other nicotine products could get a free can of ZYN. This was designed to boost trial among smokers and was well-known to the market via scanner data leading up to the earnings release.

Sell-side analysts had largely viewed this as a positive, aggressive move to reclaim momentum. So, the market shouldn’t have been surprised by higher volumes and a lower average selling price. The real shock came from the consequences.

The key factor was the downward revision of the full-year organic operating income growth guidance. While management attributed this to the ~$100 million impact of the ZYN relaunch, it forced investors to ask a difficult question: How strong is ZYN‘s competitive moat, and does it have true pricing power in the U.S.?

If a promotional campaign, which was already known and analyzed, could force a guidance cut, it suggests the profitability of this growth is more fragile than previously believed. The market is efficient; it repriced the stock not on the old news of the promotion, but on the new information about its cost and the implication for future margins.

Adding to the uncertainty were management’s comments about inventory adjustments. CFO Emmanuel Babeau noted an expected 20-30 million can inventory reduction for ZYN in the coming months and a reversal of ~2 billion HTU shipments for IQOS in Q4. This creates a headwind for the final quarter and clouds the 2025 outlook, giving investors another reason for caution.

3. My Verdict

The market’s reaction is a signal to look deeper. While the concerns around ZYN‘s U.S. margins are valid, a holistic view of the company reveals several underappreciated strengths and a strategic clarity that is rare.

• Marlboro: The Unsung Hero.
  While all eyes were on ZYN, the combustible business quietly delivered another stellar performance. Cigarette gross margin expanded by +230bps in Q3, a significant acceleration from +140bps in the first half. This resilience, driven by formidable pricing power, provided a crucial buffer. Without the exceptional performance of Marlboro, the downward revision to operating income guidance would have been far worse. This highlights a core strength of the PMI investment case: the legacy business is a powerful cash cow that continues to fund the future, providing stability during periods of volatility in the smoke-free transition. The slide title of “Increasingly Profitable Smoke-Free Transformation” may have downplayed the strong performance of combustible margin.

  

• Trouble in International Waters for Nicotine Pouches?
  This is a point that may have been missed by many. While the U.S. saw a promotional surge, international nicotine pouch volumes declined sequentially from 24.4 million cans in Q2 to 19.7 million in Q3. This implies PMI is losing share in key international markets.

  • In Europe, shipment volume grew only +7% YoY, but +144% YoY when excluding the mature Nordic region. This strongly suggests share loss in the Nordics, where competitors like BAT’s VELO and the newly aggressive ASF (LOOP), now backed by Altria and KT&G, are gaining ground.

    

  • Even outside the U.S. and Europe, volumes declined sequentially from 9 million cans in Q2 to 7.7 million cans in Q3. This points to heightened competitive intensity globally, a trend that investors must monitor closely. ZYN‘s international story is not as straightforward as its U.S. one.

• VEEV: A Masterclass in Disciplined Growth.
  Though still small, VEEV is a perfect example of PMI’s “get rich, not get big” mentality. With a disciplined and responsible approach, VEEV is now available in 46 markets and holds a top-3 position in 15 of them (including #1 in 8). A 91% YoY increase in shipment volume is impressive on its own, but achieving it while building a profitable, sustainable brand is what truly matters. What more can one ask for?

  

• IQOS in Japan: A Fortress Holding Strong.
  In Q3, Japan Tobacco launched Ploom Aura and BAT launched Glo Hilo. Both are significant upgrades to their heated tobacco offerings, backed by heavy promotions. In the face of this onslaught, IQOS ceded only one percentage point of share in the heat-not-burn category YTD. This is not a sign of weakness; it is a testament to the incredible strength of the IQOS ecosystem and brand loyalty. While it’s too early to declare victory, this initial resilience is a positive.

  

• The Power of Strategic Clarity.
  Finally, what stands out is PMI’s clear-headed strategy. They know exactly who they are targeting with each product and communicate it with transparency. It’s like a chef opening a restaurant; you must know your target clientele before you write the menu. Luck is the last thing a business should rely on.

  • IQOS consumables are being innovated for specific user journeys: DELIA to source new legal-age smokers, and LEVIA to appeal to legal-age vapers.

  • VEEV is being commercialized to source from non-IQOS nicotine users, avoiding cannibalization.

  • ZYN promotions were explicitly designed to boost trial among legal-age smokers.
    This level of strategic definition is a powerful, albeit qualitative, asset. It shows that management is not just throwing products at the wall to see what sticks; they are methodically building a multi-category portfolio with a clear purpose for each brand.

Conclusion

This quarter was a reality check for investors who may have believed ZYN‘s path to dominance would be a frictionless one. The U.S. nicotine pouch market is competitive, and growth requires significant investment. The market’s reaction, while painful for shareholders in the short term, was a rational repricing of this reality.

The company’s resilience in combustibles, the fortress-like strength of IQOS in Japan, the disciplined execution on VEEV, and the overarching strategic clarity of its management team are all powerful counterweights. The investment case for PMI has become more complex, but it has not been broken. This quarter’s “surprise” was less a red flag about the destination and more a reminder that the road to a smoke-free future will have its share of bumps and tolls.

British American Tobacco (BAT) announced in July 2025 that Michael Dijanosic, the head of its Asia-Pacific, Middle East, and Africa (APMEA) region, will step down at the end of 2025. Pascale Meulemeester, an external hire from the consumer goods industry, will replace him.

While the official announcement cites personal reasons for Dijanosic's departure, a deeper look at the region's performance paints a picture of a business grappling with severe headwinds. This leadership change is arguably one of the most significant strategic moves for BAT, as the APMEA region is a critical, yet underperforming, pillar in its ambition to deliver consistent medium-term growth.

1. Why the Change? A Story Told by Numbers and Headwinds

On the surface, the official reason is that Mr. Dijanosic is leaving to dedicate more time to family. However, the business context of his tenure reveals a period of immense pressure. The financial trajectory of the APMEA region tells a clear story:

For the revenue and adjusted profit from operation numbers shown above, they are in GBP terms on an adjusted basis, excluding one-off items. I don’t like using constant currency for assessing APMEA performance because the region includes many countries with weak currencies and high inflation. For example, a 10% revenue growth in Pakistan due to 10% inflation would translate to zero growth in GBP terms if the Pakistani Rupee depreciates 10% against GBP. The constant currency growth metric is more applicable to countries with “hard currencies” that are expected to maintain a relatively stable exchange rate against GBP over time. Most investors of BAT measure their performance in USD or GBP terms, not emerging market currencies.

This financial performance didn't happen in a vacuum. It was the result of a confluence of significant operational challenges between 2021 and 2025:

• Severe Market Contraction from Illicit Trade: In Pakistan, a key volume market, government excise hikes of over 200% caused a severe contraction in the legal market, with BAT's sales falling 38% and the illicit market now commanding an estimated 60% share. A similar, long-running challenge in South Africa has seen the illicit market expand to account for a majority of total consumption.

• Tax & Regulatory Disputes: In Bangladesh, the company has been embroiled in a major dispute over alleged VAT evasion. In Australia, relentless tax increases have continued to erode the legal market.

• Heated Tobacco Competition: In Japan, the world's most crucial heated tobacco market, BAT's flagship product Glo has steadily lost ground, with its market share falling from over 20% in 2022 to under 18% in 2024, struggling against its primary competitor.

• Strategic Exits: The company made difficult decisions to exit the vapour market in Pakistan due to punitive taxes and to cease operations entirely in Myanmar following political instability.

Navigating this environment would be a challenge for any leader. The culmination of these persistent issues provides a compelling business rationale for a leadership reset.

2. The Successor: A CPG Veteran with a Point to Prove

Pascale Meulemeester comes from outside the tobacco industry, having held senior roles at global chocolate maker Barry Callebaut and consumer giant Mars Inc. Her appointment aligns perfectly with BAT's stated vision to blend external talent with internal expertise to accelerate its transformation into a consumer-centric company.

However, her profile is not without questions for investors. While BAT's announcement notes her experience leading business turnarounds "including in the Asia-Pacific region", the bulk of her career has been focused on Europe. This raises a key concern: APMEA is a complex tapestry of emerging markets like Pakistan, Indonesia, Bangladesh, Nigeria, and South Africa. These markets have unique political, regulatory, and consumer dynamics that are worlds away from the established frameworks of Western Europe. Ms. Meulemeester's success will depend heavily on her ability to quickly get up to speed and work closely with local teams who possess the deep, nuanced understanding required to operate effectively.

3. The Mandate: Righting the Ship

Pascale’s first 6-12 months will be critical in setting the tone and priorities for the region:

• Drive Top-Line Growth: To contribute to BAT's 3-5% revenue growth algorithm, she must stabilise and grow the key end-markets. This means finding a new strategy for the heated tobacco battle in Japan and South Korea, and navigating the complex regulatory landscapes of Pakistan and Bangladesh to protect and grow the combustible business.

• Deliver Bottom-Line Savings: To contribute to BAT's ambitious £2 billion productivity savings plan (2026-2030), she must optimise a vast and complex manufacturing footprint. This includes major internal and external partner facilities in China, South Africa, Indonesia, and Nigeria.

• Focus on Priority Markets: To identify and prioritise key areas of improvement from a geographic and product category point of view.

  • APMEA is still dominated by combustible business, while heated tobacco is the most important among New Categories.

    

  • Key markets include Japan (cigarettes / heated tobacco), Pakistan (cigarettes), Bangladesh (cigarettes) and South Korea (heated tobacco), while Africa remains a relatively fragmented but growing market.

    

  • Key manufacturing hubs include South Africa, Indonesia and Nigeria, which will play a role in delivering BAT’s productivity savings target (focused on cost of sales). Another manufacturing hub not mentioned in the chart below is China, with which BAT partners with Smoore International in R&D and manufacturing of e-cigarettes and, recently, heated tobacco.

    

Her core challenge will be to navigate this incredibly dynamic marketplace and set clear priorities to improve regional performance.

4. Key Battlegrounds and Strategic Opportunities

To achieve this mandate, the new leadership will need to focus on three critical growth prospects:

• Reigniting Heated Tobacco in North Asia: Japan is the world's largest and most profitable market for heated tobacco products (HTP), making it a must-win for BAT. The recent launch of the premium Glo Hilo device is a clear strategic pivot to regain market share by targeting the premium segment. The success or failure of this launch will set the tone for the HTP category across other major profit pools. Alongside Japan, South Korea remains another key battleground where BAT must compete fiercely against established and local players to secure its position in this high-margin category.

• Leveraging China as a Hub and a Sentinel: China plays a unique dual role for BAT. On one hand, it is a critical manufacturing hub. BAT's strategic partnership with Smoore International, a world leader in vaping technology, is essential for the supply chain of its Vuse e-cigarette brand. The APMEA leadership must leverage this expertise to drive innovation and cost-efficiency. On the other hand, China is the source of the disposable vape brands that pose the largest competitive threat globally. The regional team is perfectly positioned to act as a sentinel, identifying emerging threats and consumer trends from this ecosystem to provide vital competitive intelligence that aids the broader group, most notably in the critical U.S. market.

• Unlocking the Potential of Oral Tobacco: Modern oral pouches, like BAT's Velo brand, represent a significant growth opportunity in emerging markets due to their affordability and discreet use. While the category has seen initial success in Pakistan, it still accounts for a tiny portion of APMEA's overall revenue. A key task for the new leader will be to create a scalable expansion strategy. The question is, where next? Markets with large populations and existing oral stimulant traditions could be prime candidates. Turning this potential into a meaningful revenue stream will be a long-term, but crucial, endeavour.

Conclusion: What is the Right "Prompt" for APMEA?

With the U.S. market returning to growth and the AME (Americas & Europe) region showing strong momentum, APMEA is the next critical lever BAT must pull to achieve its medium-term growth algorithm of 3-5% revenue and 4-6% adjusted profit growth. This change in management signals that BAT's board found the region's recent performance unsatisfactory and that a new approach is required.

As I mentioned in a previous article, in the generative AI era, problem-solving is no longer the most valuable attribute of senior business executives. It is the identification of the problem to create the correct "prompt". A problem is half solved when it is well-defined. Only when this condition is satisfied does seamless execution become meaningful.

BAT's leadership change in APMEA can be seen through this lens. The previous years were spent reacting to a series of significant external pressures. The appointment of an external CPG leader like Ms. Meulemeester may be BAT's attempt to create a new prompt for the region, to redefine the core challenge from “how do we manage these persistent headwinds?” to “how do we fundamentally win the consumer in this new landscape?” Her success will be measured not just by her execution, but by her ability to first define the correct problems to solve. For investors, this will be the key narrative to watch.

In an age where artificial intelligence can generate solutions at unprecedented speed, the most valuable human skill is no longer just problem-solving; it is problem definition. The quality of any answer, whether from a machine or a management team, depends entirely on the quality of the prompt. This is why the shift underway at Diageo is so compelling. After years of chasing complex and sometimes conflicting goals, the leadership team is finally defining the right problems with surgical precision, and that clarity is the most promising signal for a potential turnaround.

In my March article, “Diageo - a value stock or value trap?”, I laid out the case for why a titan of the spirits industry was trading at a deep discount. The diagnosis pointed to a handful of critical issues: alarmingly low free cash flow (FCF) conversion, a bloated capital expenditure program, soaring working capital tied up in maturing inventory, and a management incentive structure that seemed to reward growth at any cost.

The FY2025 preliminary results, while not stellar, were accompanied by a level of candour that suggests the diagnosis has been accepted. The new leadership is not just treating symptoms; they are addressing the root cause. This has given me the conviction to increase my position, fully aware that while the problems are now defined, solving them is far from guaranteed.

FY2025 Results: Treading Water, But Not Sinking

On the surface, Diageo reported a lacklustre FY2025 results (though less than feared). Reported net sales were flat at $20.2 billion, and reported operating profit plunged due to significant impairment and restructuring costs. Organic net sales grew by 1.7%, driven by a balanced 0.9% volume growth and a 0.8% positive price/mix.

Key financial highlights include:

• Adjusted EPS: 164.2 cents, an 8.6% decline but slightly ahead of consensus.

• Free Cash Flow: Increased to $2.7 billion, a positive sign supported by better working capital management.

• Leverage: Net debt to EBITDA reached 3.4x, up from 3.0x the previous year but in line with guidance.

• FY2026 Outlook: Diageo expects organic sales growth similar to FY25, but with organic operating profit growth accelerating to a mid-single-digit rate, and a robust FCF target of around $3 billion.

The market is right to be cautious. At ~15x P/E multiple, the current valuation demands a clear path to growth acceleration. A solid dividend alone won't deliver the total shareholder return investors expect. If EPS growth stalls, the valuation multiple could contract further, offsetting the 4% dividend yield to result in a negative return easily. The critical question, therefore, is how Diageo plans to reignite its growth engine.

The Nik Jhangiani Effect: A Culture of Candor and Accountability

The most profound change at Diageo isn't in the numbers yet; it's in the culture. For years, the company appeared to be managed by a set of rigid KPIs, with a particular “obsession” as Jhangiani himself calls it. For example, gross margin percentage. This fixation led to perverse outcomes, where profitable, volume-driving opportunities were ignored if they threatened to dilute the overall margin percentage. It is an example of letting metrics dictate strategy, rather than the other way around.

Jhangiani’s public statements have been resetting expectations and signalling a new era of commercial pragmatism. Consider this anecdote he shared about a discussion with the President of the North America division, which speaks volumes about the cultural shift he is driving:

"Laura came in and we were talking about RTDs and an opportunity to unlock growth in North America... And she started out with a question... she said so what gross profit margin do we want to achieve? And I said it's not about what gross profit margin we want to achieve, what's the accretive gross margin dollar pool that we can actually bring in that we are not playing in today and then the gross margin percentage is going to be the outcome of it.”

This is not just a semantic difference; it's a fundamental rewiring of the company's operational DNA. He was even more direct when linking this flawed thinking to the company's incentive structure, a core issue I highlighted in my previous article:

"I'm a firm believer around if you have the right metrics and you are measuring those, to deliver those, you need to incentivise them as well... I think the challenge has really been, it's potentially driven some wrong behaviours or some wrong choices in terms of where we want to play or not play because of margin percentage..."

This is the kind of bold, transparent leadership that was needed. It signals that the board has empowered him to make uncomfortable but necessary changes, starting with how management is compensated and held accountable.

A Complex Portfolio in a Shifting World

This new focus is critical because Diageo is navigating a complex and divergent global market. The latest results paint this picture clearly. The business derives 62% of its revenue from developed markets and 38% from emerging markets, a geographic diversification that is both a strength and a challenge. Performance was resilient in Africa and Latin America, but sluggish in the core markets of North America and Europe, and outright poor in Asia Pacific.

On the brand level, a few stars are carrying the weight. Guinness, Don Julio, and Crown Royal are driving growth, while many other brands in the portfolio are struggling against tough market conditions. This diversification across geographies and categories, each with its distinct landscape, makes predicting near-term momentum a fool's errand, even for management. The explosive, almost cultural-phenomenon growth of Guinness in recent years, for instance, owes as much to an organic and unpredictable shift in consumer tastes as it does to any specific management initiative.

While we cannot rely on luck, we can rely on sound capital allocation. The most reliable long-term strategy in such a complex environment is to focus investment on the largest and most profitable pools while driving for capital efficiency. This is precisely the shift in thinking that management is now championing.

Tackling the Financial Drags with Precision

With this new mindset, Diageo is now surgically addressing the financial issues that have weighed on its performance and valuation.

1. Taming the Capex Beast:
Diageo's capital expenditure reached an unsustainable 7.7% of net sales in FY25. This is nearly double the historical norm of ~4% seen before 2022, a period of aggressive expansion that was poorly timed with the subsequent market slowdown. The inflexion point is finally here. Management has explicitly guided for CapEx to fall over the next three years toward a mid-single-digit percentage of net sales. FY26 capex is guided to be $1.2-1.3 billion, down from $1.5 billion in FY25. This reduction alone is expected to drive a $200-300 million increase in FCF in FY26, providing a powerful and highly visible boost to cash generation.

2. Unlocking Cash from Maturing Stock:
Investment in maturing stock has been a massive FCF headwind. The cash flow statement reveals a $368 million cash outflow for maturing inventories in FY25. While this was down from the even larger $577 million in FY24 and $693 million in FY23, it represents a significant drain on capital. As these investments normalise and the aged liquid is eventually bottled and sold from FY27 onwards, this FCF headwind will transform into a multi-year earnings tailwind.

3. A Smarter, More Efficient Growth Engine:
The “Accelerate” cost-cutting program has been upsized from $500 million to $625 million annually, with half flowing to the bottom line. Critically, this is not a blunt cost-cutting exercise. A key focus is making A&P spending more efficient. By leveraging AI and data analytics, Diageo reduced non-working media development costs from 21% of A&P in FY24 to 14% in FY25, with a clear goal of reaching ~10%. This is about reinvesting smarter, not just spending less.

The Path Forward: A Strategy of Balanced Growth

The singular focus on premiumization is evolving into a more pragmatic, balanced portfolio strategy designed to capture growth where it exists.

The clearest example is Guinness. The brand is on fire globally, but growth has been capped by supply. The new brewery being built in Kildare, Ireland, is a game-changer, set to increase total Guinness production capacity by 30% when it comes online in the second half of 2026. This will not only satisfy pent-up demand in core markets like the UK, Ireland, and the US but also fuel the international expansion of both classic Guinness and Guinness 0.0.

This balanced approach extends to tequila, where the company is moving beyond its ultra-premium focus to compete in broader, high-volume segments, and to RTDs, where innovation is meeting consumer demand for variety in flavour, ABV, and calories.

Conclusion: A Calculated Bet with Acknowledged Risks

After the results, Diageo's shares trade at a P/E multiple of approximately 15x, based on the announced adjusted EPS of 164.2 pence and the recent share price. This mid-teens multiple feels fair, pricing in both the challenges and the potential for recovery. It is a world away from the high-single-digit multiples of tobacco stocks we saw in recent years, but Diageo no longer carries the premium of a flawless growth compounder.

This is why I see the risk-reward as balanced. My decision to buy more shares is a calculated bet on the success of this turnaround, but I am not blind to the execution risks.

• Can they execute a “balanced” strategy without diluting the premium brand equity they have spent decades building? Venturing into lower-margin, higher-volume categories is fraught with peril if not handled carefully.

• Will the A&P efficiency drive be truly “smarter”, or will it devolve into simple cost-cutting that starves brands of the investment needed to maintain their cultural relevance?

• External headwinds remain. A deteriorating economic environment could accelerate consumer downtrading beyond what even a more balanced portfolio can capture, even if Diageo fully absorbs the U.S. tariff on imports without passing it through to customers.

• U.S. market share recovery, after a strong first half, is overshadowed by a sequential decline in the second half of FY25. While Don Julio, Guinness and Crown Royal continue to drive growth, there is more work to do with other brands.

Diageo is not an easy investment today. The path to restoring its status as a top-quartile TSR company will be challenging. However, for the first time in years, the leadership team has correctly identified the problems and is implementing a credible, financially disciplined plan to solve them. The inflexion point on capital allocation is here, and the culture is changing for the better. The ship is turning, and I am willing to bet it is turning in the right direction.

British American Tobacco (BAT) released its half-year 2025 results today, delivering a performance that was slightly ahead of expectations and builds on the positive momentum outlined in the June pre-close trading update.

For a comprehensive summary of the headline numbers and key takeaways, I highly recommend reading the excellent and detailed analysis published by Tobacco Insider. Their article provides the perfect backdrop for the deep dive I want to take into some of the more nuanced issues driving the business.

The market reacted with a modest share price increase, a rational response reflecting the slight but tangible improvement in BAT's fundamentals. With the stock now trading closer to what I consider its fair value (~11x 2025E P/E), the days of deep-value discounts may be behind us. Investors and analysts are increasingly appreciating the resilience of BAT's combustible business, the tangible growth in its New Category portfolio, and the stability provided by its geographic diversity. The market consensus is now converging to my view.

Let's dive into the key areas that defined this half-year.

U.S. Combustibles: The Engine Roars Back to Life

For the first time since 2022, the U.S. business has returned to both revenue and profit growth, becoming the most significant contributor to the Group's performance. This turnaround is powered mainly by the combustible business, which has more than offset the weakness in Vuse and the heavy investment in the Velo Plus launch.

Despite an environment where consumers are trading down, BAT has impressively held its volume and value share. This is a testament to its revitalised portfolio strategy, capturing both ends of the market with market share gains from the premium Natural American Spirit and the discount brand Lucky Strike. This is precisely what you expect from a well-managed company: turning headwinds into opportunities to maximise business value.

The trend of downtrading within the U.S. cigarette market persisted through the second quarter of 2025. My analysis of sequential dollar share movement (for the 12 weeks ending 06/28/25) against the average selling price (ASP) per pack reveals a notable dynamic. Excluding ultra-premium brands like Natural American Spirit (ASP of US$13.12), Virginia Slims (ASP of US$14.44), and Parliament (ASP of US$14.71), there is a negative correlation between market share movement and ASP for major U.S. cigarette brands, with an R-squared value of 0.31.

Against this backdrop, it's interesting to see that despite their premium-skewed portfolios, both Altria and BAT grew their sequential dollar share, increasing by 25bps and 2bps, respectively, from Q1 to Q2 2025. This suggests the pressure from downtrading was effectively offset by share gains from their ultra-premium brands (Natural American Spirit, Virginia Slims, Parliament) and discount offerings (Basic, Lucky Strike).

However, the real story behind the revenue growth lies in the remarkable price/mix of +11.4% in the U.S., a figure far exceeding the 6.5-7.0% observed in Nielsen scanner data. The primary driver of this differential is the "double drawback" mechanism related to the federal excise tax on tobacco, an issue recently highlighted by competitor Altria. By increasing the export of U.S.-manufactured cigarettes while also increasing imports from markets like Mexico, BAT can optimise its federal excise tax payments, resulting in higher net revenue per unit.

Understandably, BAT has not broadcast this tax optimisation strategy. It is politically sensitive and could draw criticism. The company's defence is that it operates within a long-standing legal framework designed to incentivise U.S. manufacturing and employment. In other words, without this mechanism, BAT could import more and cut its U.S. manufacturing footprint, which would be detrimental to local jobs.

Here is a full breakdown of the “double drawback” mechanism that allows the tax to be avoided. The key is a concept called "substitution drawback."

Step 1: Import and Store
A company like Reynolds imports millions of cigarettes from its factories in Mexico. These cigarettes are placed directly into a Customs Bonded Warehouse in the U.S. At this point, no excise tax is due.

Step 2: Export U.S.-Made Products
In a separate business activity, the same company manufactures cigarettes at its U.S. plant (for example, in North Carolina). It then exports these U.S.-made cigarettes to another country. Because these cigarettes are being exported, they are exempt from the $1.01 federal excise tax. The company pays no excise tax on them.

Step 3: The "Substitution" Claim (The Loophole)
This is the critical step. The 2015 change in the law allows the company to claim that the tax-exempt cigarettes it exported are a "substitute" for the imported cigarettes sitting in the bonded warehouse.

The company files paperwork with the government for a "drawback" (a tax refund). They are essentially making this argument:

"We are entitled to a refund of the excise tax on the imported Mexican cigarettes because we exported an equivalent quantity of U.S.-made cigarettes."

Step 4: The Government's Predicament
Here is why the tax bureau cannot collect the tax. The drawback claim is not for a refund of cash already paid, but rather a credit against a future tax liability.

• The government processes the drawback claim based on the export of the U.S. cigarettes.

• This claim legally cancels out the $1.01 per pack excise tax that would have been due on the imported Mexican cigarettes.

• The company can now remove the Mexican cigarettes from the bonded warehouse and sell them to U.S. consumers. When the moment comes for the tax to be collected (the removal from the warehouse), the tax liability has already been legally erased by the drawback claim.

In summary, the tax bureau is unable to collect the tax because the law, as it stands, allows the export of a tax-free product to generate a "refund" that cancels the tax liability on a different, imported product. The tax obligation is triggered, but it is simultaneously and legally nullified before any money changes hands. This is why it's called a "double drawback". The company benefits from not paying tax on the export and then gets a second benefit by using that export to cancel the tax on its imports.

Velo Plus: A U.S. Success Story in the Making

The news on Velo Plus is excellent. It is firmly on track to become the #2 modern oral brand in the U.S. by both volume and value. Even better, it is expected to achieve profitability in 2025, its first full year of launch.

This success is built on a superior product experience. The higher moisture level of Velo Plus allows for a slower, more long-lasting release of nicotine, which has led to a strong customer retention rate of 70% after initial trials. This loyalty gives BAT the confidence to raise prices, a critical step towards profitability. In fact, excluding the market leader ZYN, Velo Plus's average selling price is already at a premium to the rest of the market.

With its distribution footprint now exceeding its target at 135,000 stores, future growth will be driven by sales velocity (i.e., cans per store per week) and further pricing actions, both of which are accretive to the bottom line. The potential future approval of Velo 2.0 by the FDA—the highly successful European version of the product—could strengthen BAT's position even further.

Velo in Europe: Defending the Home Ground

Let's not forget that Velo's home ground is in Europe, where it commands a dominant >60% market share, nearly six times that of ZYN. Despite ZYN's aggressive expansion, Velo is still capturing an impressive 60% of the category's growth.

However, a point of caution is warranted. In the AME (Americas and Europe) region, volume growth is running about 10 percentage points ahead of constant-currency revenue growth. This suggests that BAT is using competitive pricing to defend its market share against ZYN's push. While this pricing trend is worth monitoring, I am comfortable that BAT is managing the pressure. The modern oral category is highly profitable, affordable, and has the lowest health impact, making intensified competition a natural consequence of its success.

The "Wait and See" Categories: Glo and Vuse

Heated Tobacco (Glo Hilo):

While BAT's heated tobacco performance was modest in H1, all eyes are on the upcoming launch of Glo Hilo. Patience is warranted, but it's crucial to understand that Glo Hilo is launching into an intensely competitive environment, and the clock is ticking.

The primary battleground is, without a doubt, Japan. Its main rival, Japan Tobacco (JT), just fired a major shot across the bow with its new device, Ploom AURA. According to its H1 2025 results, JT's launch in late May has been a resounding success. Key metrics from their report paint a formidable picture:

• Explosive Market Share: In Japan, JT achieved a 13.6% share of the heated tobacco sticks (HTS) segment in the second quarter. This represents a rapid acceleration, with their HTS share jumping approximately 2 percentage points in the two months following the launch.

• Strong Volume and Revenue Growth: JT's overall HTS volume grew by 29.5% year-to-date, driving a 10% increase in RRP-related revenue.

• Impressive Device Adoption: JT confirmed that initial device sales for Ploom AURA are "far exceeding" previous models—by approximately three times, according to their presentation.

While Japan is the headline fight, BAT's strategy for Glo Hilo extends globally. The company plans a phased rollout into its other "highest profit pool" markets, likely referring to key battlegrounds in continental Europe and South Korea, starting in H2 2025 and continuing throughout 2026.

This puts immense pressure on Glo Hilo to deliver on multiple fronts. It must not only counter the strong momentum of Ploom AURA in Japan but also demonstrate significant traction in Europe to prove it can be a true global growth engine for BAT. We will be watching the data from all these markets closely, but the bar for success has just been raised significantly.

Vapour (Vuse):

• U.S. & Canada: The weakness in Vuse is self-explanatory: the proliferation of illicit disposable vapes continues to decimate the legal market. While there are early signs of a narrative shift from U.S. authorities towards tackling illicit products, the core problem remains: the FDA's slow approval process for legal, flavored alternatives creates the very gap the black market is filling. In Canada, the political climate offers little hope for enforcement. Vuse Ultra was launched to target the premium segment, but it's hard to see it competing on an unlevel playing field.

  

• Europe & Beyond: Vuse also faced hiccups in the UK and France as the market transitions. In APMEA, the 40% revenue decline looks stark but is the result of a deliberate strategy. BAT is exiting smaller, unprofitable Vapour markets (like Malaysia and Japan) to reallocate resources to its largest profit pools. I view this as a positive sign of discipline. BAT doesn't need to be everywhere; it needs to focus on markets where it can win sustainably.

Fit2Win: Fueling the Future

Cost-cutting has always been a cornerstone of BAT's growth algorithm, and the company seldom disappoints. The new "Fit2Win" program will target £500 million in annualized SG&A savings by the end of 2028. This complements the existing productivity program focused on the cost of sales.

The investment case is compelling: a one-off cost of c.£500 million (of which £350 million will be a non-cash adjusting item) to generate £500 million in annual savings is an incredibly high return. These savings will be reinvested mainly into New Category growth so that they won't flow directly to the bottom line in the short term. However, they are essential fuel for achieving the company's medium-term growth algorithm (3-5% revenue growth and 4-6% adjusted profit growth) by accelerating the path to scale and profitability for its NGP portfolio.

Conclusion: Building a More Resilient BAT

These half-year results are a solid step forward, validating BAT's multi-category strategy and demonstrating strong execution.

The U.S. combustible business is performing exceptionally well, driven by innovative brand management and a savvy tax optimisation strategy. Velo Plus is a clear home run in the U.S., on a path to both market leadership and profitability, while its European counterpart successfully defends its turf.

Heated Tobacco and Vapour remain the key areas to watch. The Glo Hilo launch is the next major catalyst, while Vuse's recovery hinges on regulatory action against the illicit market. Crucially, BAT is showing strategic discipline, exiting unprofitable ventures and reinvesting cost savings into its most significant opportunities.

Overall, the results reinforce a cautiously optimistic view. Management is executing well on the controllables, building a more resilient and dynamic business, and laying the financial groundwork to achieve its mid-term growth targets.

This response wasn't necessarily about a broken business, but rather a narrative getting ahead of itself. The share price movement, both the run-up before the announcement and the correction after, is justified when a stock is priced for perfection. This is the dynamic we'll explore.

For an overview of PMI’s Q2 2025 results, you may refer to the Tobacco Insider article for details.

The Perils of a "Beat-and-Raise" Mindset

It's natural to form a view on whether a company will beat or miss estimates. However, betting on a "beat-and-raise" quarter just before an announcement is a short-term, zero-sum game. By the time the results are out, those expectations are already priced in. When reality falls even slightly short of the most optimistic whispers, as it did with ZYN shipment volumes, the air comes out of the balloon fast.

Long-term investing is different. It is not a zero-sum game. It is the process of partnering with a solid business and allowing profits to compound over time, long after the excitement or disappointment from a single quarter fades. Yesterday's price action was a textbook example of the market's short-term voting machine operating with perfect logic based on the available information and pre-set expectations.

The ZYN Saga: Phasing, Not Faltering

The primary source of anxiety was the sequential decline in ZYN U.S. shipment volumes, from 202 million cans in Q1 to 190 million in Q2. On the surface, this appears to be a slowdown. In reality, it was an expected and communicated dynamic.

As management guided in Q1, the first-quarter shipment number was artificially elevated by the significant restocking of wholesale and retail channels after a period of supply constraints. That restocking concluded in the second quarter. This is not a surprise; it's an accounting of inventory movements.

The more meaningful metric is retail off-take, which refers to what consumers are actually buying. Here, the story is one of strength. According to NielsenIQ data cited by management, ZYN’s offtake volume growth accelerated to ~37% year-over-year in the first two weeks of July. This represents a dramatic recovery from the ~15% growth seen in March, when shelves were empty, and it brings ZYN back in line with the overall nicotine pouch category's growth of ~39%. The most important metric, sequential market share, has been growing strongly since April.

As PMI highlighted in its earnings presentation, retail offtake sales velocity is also accelerating on a cans/store/week basis, which is similar to the same-store sales growth (“SSSG”) metric measured by the consumer retail industry. It is a strong testament to the brand's strength that ZYN is catching up to the category growth rate with minimal promotional and advertising investment, as its sales velocity grew from 75 to 82 between Q1 2025 and Q2 2025, extending a multi-year growth trend.

As I highlighted in my previous article on Q1 earnings, the real test begins now. With ZYN back in stock, its competitors, who relied on heavy promotions to gain share, are in a peculiar situation. Do they risk raising prices to sustainable levels now that ZYN is restarting its promotional spending? PMI is not the one in a tough spot; its competitors are.

The Elephant in the Room That No One Saw

While Wall Street obsessed over ZYN, everyone missed a potentially more significant data point. In Japan, PMI's largest and most important IQOS market, heated tobacco unit (HTU) market share saw a sequential decline of 50 basis points, from 32.2% in Q1 to 31.7% in Q2.

This marks the first sequential decline in market share in Japan since the third quarter of 2021, when the company transitioned from IQOS 3 to the then-new IQOS ILUMA. The press release mentions "increased competitive intensity", but surprisingly, not a single analyst on the earnings call asked a follow-up question to understand what is driving this. I have read a few sell-side analyst reports before writing this article, but none discussed the 50bps sequential market share movement of IQOS in Japan. What is the impact of new competitor products like Ploom Aura and Glo Hilo? What is PMI's innovation pipeline to counter this?

Given that the success of IQOS is far more critical to PMI's global thesis than ZYN, this was a glaring omission. The market was so focused on the ZYN mouse that it missed the potential stirring of the IQOS elephant.

A Word on Valuation

The context for all of this is, of course, valuation. The sharp price correction is logical when you consider the premium at which PMI trades. PMI trades at a 2025E P/E multiple of ~22x (based on management guidance of $7.43 - $7.56 adjusted EPS excluding currency), which represents a significant premium to both its historical average (3-year historical average multiple of ~16x) and its tobacco peer group.

The market rightfully assigns this premium due to PMI's best-in-class growth algorithm, which consistently outpaces its peers in the tobacco and broader consumer packaged goods sectors. However, a premium valuation also means the stock is held to a higher standard. There is little room for error, and any data point that falls short of elevated expectations, even if strong in absolute terms, can trigger a swift de-rating, as we saw yesterday.

Key Strengths Overlooked in the ZYN Frenzy

Beyond the headline drama, several aspects of the quarter demonstrated prudent management and underlying business health:

1. Prudent Treasury Management: Some analysts questioned why the FX tailwind wasn't larger despite U.S. dollar weakness. Let's not forget that after a decade of the U.S. dollar strengthening, PMI has been actively hedging its exposure (e.g., in JPY) and shifting its debt to be more Euro-denominated. The goal isn't to maximise gains from currency swings; it's to manage risk and deliver predictable dollar-based profit growth, which they are doing successfully. During the earnings call, when questioned about the currency impact, CFO Emmanuel Babeau explained that the negative transactional impact from a volatile Swiss franc, where PMI has significant costs, "is to a large extent offsetting the benefit we have on the euro."

2. Strong Margin Performance: The narrowing gross margin gap between combustibles and smoke-free products was questioned. This performance was driven by both the smoke-free portfolio and a surprisingly robust combustible business, which saw its organic gross profit grow by 5.0% and deliver a 140bps gross margin expansion in the first half. As CFO Emmanuel Babeau noted, the improvement in combustible margins helped narrow the gap, a sign of strength, not weakness. If PMI can sustain its current smoke-free margins in the second half while reinvesting in ZYN, it would be a significant achievement, relying on IQOS's scale and the resilience of the combustible engine to balance the equation.

   

3. The Quiet Rise of the Multi-Category: The strategic deployment of a multi-brand portfolio is accelerating. PMI now offers at least two of its smoke-free products in almost half of its 97 SFP markets, with the number of markets featuring all three brands (IQOS, ZYN, VEEV) jumping to 20 from 16 just last quarter. This strategy is designed to capture different consumer needs and usage occasions, accelerating the complete transition of adult smokers away from cigarettes.

   

4. VEEV’s Profitable Acceleration: While still small, VEEV's progress is becoming material. Shipments more than doubled year-over-year, establishing it as the #1 closed-pod system in six European markets. More importantly, the business is becoming increasingly profitable. CFO Emmanuel Babeau revealed in the Q&A that VEEV's gross margin improved by "more than 10 percentage points" in early 2025 and that management believes it can achieve profitability "similar... as the combustible business." This demonstrates a clear path for VEEV to become a meaningful contributor, not just a drag on margins.

   

In conclusion, the market's reaction, while sharp, is understandable. When a stock with a premium valuation meets sky-high expectations, any perceived shortfall will trigger a correction. For long-term investors, the focus should now shift from the short-term noise of inventory movements to the long-term fundamentals. Regarding its smokefree portfolio, the most important thing is not the quarterly shipment number for ZYN, but the competitive landscape for IQOS in its most critical market.

Over time, as sell-side commentary more closely mirrors the reality Evolution is facing, my analysis will seem less counterintuitive and more like common sense. For now, let's examine how the quarter's performance reinforces the thesis that Evolution is transitioning from a growth darling into a resilient compounding machine.

Gauging True Momentum: The Game Rounds Index

To understand the health of Evolution's entire network, looking purely at revenue can be misleading. The RNG segment's growth of just 0.3% this quarter, for example, was heavily skewed by a record payout.

A far better measure of underlying customer engagement across both Live Casino and RNG is the Game Rounds Index. This metric, which tracks total player activity, grew a healthy 2.7% year-on-year and an even stronger 2.7% quarter-on-quarter (10.6% annualised). As the Q2 presentation shows on page 3, the index has followed a consistent, upward trajectory, separating the signal of genuine player engagement from the noise of short-term payout volatility. It tells us that more people are playing Evolution's games, which is the most fundamental driver of long-term value.

Geographical Performance: A Mixed Picture

The global story remains one of divergence, with challenges in Europe being offset by strength elsewhere:

1. Asia: Cautious Optimism as Cyberattack Countermeasures Take Hold

A key concern from the first quarter was the impact of "criminal cyber activity" in Asia, which pressured revenue growth. The CEO reported that the company is "starting to reap some benefits" from new technical countermeasures.

After posting €201.9 million in Q1, revenue from Asia grew 3.6% sequentially to €209.1 million in Q2. While the company remains "very cautiously optimistic," this sequential turn is a significant green shoot. However, it is worth noting that criminal cyber activity remains a persistent issue, and I don’t expect it to disappear overnight.

In a landmark move, Evolution launched its first-ever Asian studio in the Philippines during the quarter, marking a significant step into the first licensed iGaming jurisdiction in the region.

2. Europe: The Lingering Impact of Proactive Ring-Fencing

Challenges in Europe persisted. In Q1, Evolution took "proactive and self-initiated actions" to ring-fence certain regulated European markets to align with evolving regulatory standards. The company warned this would have a negative impact, and Q2 results show this playing out.

European revenues declined by 5.0% sequentially, falling from €189.7 million in Q1 to €180.2 million in Q2. Mr. Carlesund acknowledged that the financial impact may have been "larger than anticipated outside of the UK." This demonstrates the short-term cost of Evolution's strategy to stay ahead of the regulatory curve. While the company maintains that sensible regulation is ultimately beneficial, the European segment remains a drag on overall growth for now.

3. The U.S. Growth Engine: Firing on All Cylinders

North America remains a source of strength, with revenues growing 3.5% sequentially to €74.0 million. More importantly, Evolution made significant strategic moves during the quarter that bolster its long-term outlook in the region.

Key developments include:

• Entering Rhode Island: An agreement with Bally's Corporation established Evolution's presence in all seven U.S. states that currently offer online casino gaming.

• Expanded Hasbro Partnership: Evolution is now Hasbro's exclusive global provider for online casino games based on iconic brands like MONOPOLY. This includes developing new live casino and slot titles, reinforcing its entertainment-led approach.

• Studio Expansion: The company is continuing to invest in capacity, with plans for a new studio in Grand Rapids, Michigan.

4. Latin America: Brazil Leads Expansion

Evolution's global expansion strategy is in full swing, with significant milestones achieved in key growth regions. The share of revenue from regulated markets stood at 44% in Q2, representing a significant increase from 39% in the same quarter a year prior.

In Brazil, timed with the country's transition to a regulated market, Evolution launched its new state-of-the-art studio in São Paulo after the quarter's end. Latin American revenue saw a healthy 3.9% sequential growth to €37.6 million, and the new studio is poised to accelerate this trend.

Profitability and a Clear Path to Guidance

The company reiterated its full-year EBITDA margin guidance of 66-68%. Far from being ambitious, this target appears well within reach. The H1 2025 margin was 65.8%, with Q2 coming in slightly higher at 65.9%. It is a stone's throw from the lower end of the range.

This guidance seems even more achievable when considering the phasing of investment. The company is incurring start-up costs for its new studios now, with the corresponding revenue set to ramp up in the coming quarters. This provides a natural tailwind that should help lift margins comfortably into the guided range in the second half of the year.

The reported profit for the period was also impacted by a -€11.9 million net financial loss, primarily due to FX movements. As a EUR-reporting company holding significant SEK cash for dividends and buybacks, the depreciation of the Krona during the quarter led to a valuation loss, a financial quirk rather than an operational flaw.

We Don't Need Another Hero: Why Mid-Single-Digit Growth is Enough

The key message from my previous article was that Evolution no longer needs heroic, double-digit growth to deliver compelling shareholder returns. The Q2 results provide concrete evidence for this thesis.

By annualising the sequential growth in operating profit (from €303.4m in Q1 to €306.4m in Q2), we arrive at an underlying growth rate of approximately 4%. This is the "mid-single-digit" growth that, when combined with an ~8% return from dividends and buybacks, is sufficient to generate a very attractive total shareholder return. Of course, with the share price increasing, returns from dividends and buybacks will diminish, requiring faster growth from underlying earnings to balance the equation.

Furthermore, the quality of this revenue is improving. The proactive ring-fencing in Europe, while painful in the short term, reduces the company's reliance on grey markets, de-risking the business and making that mid-single-digit growth more certain and sustainable over the long term.

Conclusion: A Renewed Focus on the Core

The most significant long-term risk for Evolution has always been the "curse of too much cash", leading to value-destructive M&A outside of its core expertise. The developments in Q2 offer reassuring evidence that this risk is being managed.

The core of Evolution's investment case has always been its dominance in Live Casino, a segment with high barriers to entry built on operational scale, technological expertise, and brand trust. This is the home ground Evolution cannot afford to lose, and Q2 results show it remains laser-focused.

Live Casino revenue grew 3.6% year-on-year to €453.7 million. This continued growth, even in the face of regional challenges, proves the resilience of the vertical. It is the engine of the business, and the company must remain focused on defending its moat here. As long as Evolution remains this focused, it will not only navigate the current challenges but will almost certainly exit this storm stronger than it entered. Quarterly earnings beat or miss will fade and be forgotten over time, while the quality of the business and the discipline of its capital allocation endure.

The 2017 acquisition of Reynolds American by British American Tobacco for $49.4 billion is a frequent topic of debate. Critics point to the high premium and the significant debt load BAT assumed, often concluding that the company overpaid. While the price was undeniably steep, this perspective misses a crucial counterfactual: What would have happened if the deal had fallen through?

In an alternate universe without the Reynolds acquisition, BAT, flush with strong free cash flow and borrowing power, could have made far more value-destructive decisions. The Reynolds deal, in hindsight, forced capital discipline by preempting far riskier bets, protecting BAT from the siren songs of an era defined by cheap money and speculative fervour.

To understand why, we must first revisit the business environment of 2017.

Setting the Scene: The Five Forces of 2017

Five powerful forces were converging, creating a perilous landscape for a company like BAT had it been looking to deploy billions in capital:

1. The Zero-Interest Rate Policy (ZIRP) Environment: In 2017, the world was awash in cheap money. The US Federal Reserve’s key interest rate was beginning to climb from near-zero, sitting at a mere 1.25-1.50% by year-end. In Europe, rates were even lower. This environment encouraged companies to increase leverage and pursue growth, sometimes at any cost.

2. The Cannabis “Gold Rush”: The legalisation of cannabis in Canada (2018) and a growing number of U.S. states created a speculative bubble of epic proportions. For Big Tobacco, cannabis seemed a logical “beyond nicotine” strategy, given the parallels in agriculture, regulation, and distribution. Valuations soared to unsustainable levels, driven by hype rather than fundamentals.

3. The IQOS “Fear of Missing Out”: Philip Morris International’s (PMI) IQOS was a runaway success, proving that a heat-not-burn product could genuinely disrupt the cigarette market. This success created immense pressure on competitors. As the valuation gap between the forward-looking PMI and the seemingly legacy-bound BAT widened, the “fear of missing out” would have driven an urgent, and potentially reckless, search for a competitive response.

4. The ESG Tsunami: The years 2017-2018 marked a pivotal turning point for ESG (Environmental, Social, and Governance) investing. According to data from Calastone, the global funds network, investor appetite for ESG funds exploded in the autumn of 2017. Between August 2017 and April 2020, net inflows into ESG funds were 37 times greater than in the preceding three years. This wave of ESG-driven fund flows forced asset managers to adopt strict no-tobacco policies, crushing tobacco stock valuations regardless of their underlying cash flow generation.

5. The Credit Rating Imperative: As ESG pressure mounted, credit rating agencies began placing greater emphasis on the growth and profitability of Next Generation Product (NGP) portfolios. A robust NGP strategy was seen as credit-positive, signalling a sustainable future for cash flows and debt servicing. This created a powerful incentive for tobacco companies to be seen as investing heavily in NGPs, even if the path to profitability was unclear.

The Financial Scorecard: Analysing the Path Taken

Given this backdrop, let's first evaluate the deal that actually happened. Critics are right about one thing: on a standalone basis, the Reynolds deal was no bargain. My analysis, running from the 2017 acquisition to a hypothetical exit in 2025 (though one may argue it is still early to tell), reveals a sobering financial verdict: unlevered IRR of 4.5% and levered IRR of 5.8%. It confirms the deal was not value-accretive on its own merits. But to judge it fairly, we must compare it not to perfection, but to the likely alternatives.

The Alternate Universe: A Landscape of Temptation and Prudence

Now, let's step into the alternate universe where the Reynolds deal fell through. With immense pressure to act, BAT would have faced a landscape of tempting, but treacherous, opportunities.

Path 1: The Value-Destructive Traps

The most likely paths would have been chasing the fashionable investment themes of the day.

The Vape Trap

Without Reynolds’ Vuse brand, BAT would have been desperate to acquire a leading vape asset. The likely targets would have been a minefield:

• Juul: BAT could have preempted Altria’s disastrous $12.8 billion investment, which was subsequently written down to almost zero.

• NJOY: Another Altria acquisition, this one for $2.75 billion, which was almost immediately hobbled by an FDA import ban on its key products.

• RELX: Acquiring a leading Chinese vaping company would have exposed BAT to immense regulatory and geopolitical risk, which has since crippled the industry in China.

• Heaven Gifts (Elf Bar/Geek Bar): While commercially successful, these brands have operated in a regulatory grey area. An acquisition by a compliance-focused multinational like BAT would have been a culture clash, likely stifling the very agility that made them successful. Let’s imagine if BAT had acquired Heaven Gifts before Elf Bar was banned in the U.S. While one may argue that Heaven Gifts is a resilient business that has managed to recapture the market through its majority-controlled Qisitech and launched Geek Bar in place of Elf Bar, BAT may not be equally flexible and agile in making such a move as a public company. The management team at Heaven Gifts might lack the incentive to pursue the “Qisitech route” as they didn’t own the business anymore. Why bother to take a risk for BAT’s benefit? They could leave Heaven Gifts and start anew at Qisitech or elsewhere, following the ban on Elf Bar.

The Cannabis “High” and Subsequent Crash

This represents another likely path to catastrophic value destruction other than the vape trap. With a strong balance sheet and a mandate to pursue “beyond nicotine” growth, BAT would have been under immense pressure to make a significant play in cannabis. The cautionary tales were yet to be written:

• Constellation Brands invested over $4 billion into Canopy Growth, an investment that has since lost the vast majority of its value.

• Altria wrote off almost the entirety of its $1.8 billion investment in Cronos Group.

It is highly probable that in this alternate universe, BAT would have made a similarly significant and ill-timed investment at the peak of the cannabis bubble, destroying billions in shareholder value.

Path 2: The Roads Not Taken

There were, of course, more prudent options. However, these were strategically and culturally untenable.

• The "Sinful" Stigma of Combustibles: The most logical and profitable use of capital might have been acquiring smaller, cash-generative cigarette companies to consolidate market position or enter new markets. However, in the ESG-obsessed environment of 2017-2019, this would have been a thankless task. Management would face immense pushback from the board and investors for doubling down on a “dying” industry. Any failure in an NGP acquisition was forgivable as “investing in the future”; a minor misstep in a combustibles deal would have been a career-ending mistake. After all, the combustible segment is not without its own legal and compliance risk.

• The "Passive" Share Buyback: The most financially disciplined path was a sustained share buyback, offering a stable ~6.5% earnings yield. But this would have been seen as an admission of defeat. It wouldn't solve the US market problem or the NGP arms race, and it ran contrary to a corporate culture geared for bold, expansive action.

Conclusion: The Best Deal Was the One That Tied Their Hands

This brings us to the final verdict. When we compare the financial outcome of the path taken against the most probable alternate paths, the picture changes dramatically.

The Reynolds acquisition generated a positive, albeit low, Levered IRR of 5.8%.

The likely alternatives offered catastrophic returns:

• The potential IRR of acquiring Juul: Effectively -100%.

• The potential IRR of investing in Canopy Growth: Approaching -90% or worse.

The acquisition of Reynolds American, while expensive, achieved something crucial: it imposed capital discipline. It absorbed BAT’s financial capacity, preventing management from chasing the disastrous investment trends of the era. Instead of a speculative cannabis play or a write-down-in-waiting vape acquisition, BAT secured a portfolio of highly profitable brands and a world-class NGP platform in Vuse.

The deal anchored BAT in the reality of cash flow, not the fantasy of hype. Sometimes, the most strategic move is the one that limits your options, protecting you from the market's most seductive and dangerous temptations.

While the market mourns the loss of a hyper-growth story, it may be overlooking the birth of something else: a resilient, cash-gushing compounding machine. This article will break down Evolution's formidable business model, address the "wall of worry" currently facing the company, and present a contrarian view: that at today's valuation, Evolution offers a compelling total shareholder return story that growth-focused investors are missing.

1. The House Always Wins: Evolution’s Business Model

The global iGaming market is a vast and growing space, projected to expand at a double-digit CAGR. Within this ecosystem, Evolution operates on a B2B2C model. It does not deal with end-players directly; instead, it provides fully integrated Live Casino solutions to online gaming operators (its customers), including Bet365, FanDuel, DraftKings, Entain etc.

The model is simple and powerful: Evolution builds and operates state-of-the-art studios, hires and trains professional game presenters, and streams high-quality, interactive casino games—from Blackjack and Roulette to its famous entertainment-centric game shows like Crazy Time—24/7. In return, it typically takes a ~10% revenue share from the gross gaming revenue generated by its customers.

The value proposition is clear: For casino operators, Evolution offers a capital-light, turnkey solution to provide their players with the most engaging and trusted Live Casino experience, a critical tool for user acquisition and retention.

2. A Formidable Moat in a Competitive Arena

Evolution's primary competitors are giants like Playtech and Pragmatic Play. However, Evolution has built a formidable moat that differentiates it significantly:

• Unmatched Scale and Quality: With over 20 studios globally and thousands of game tables, the scale of its operation is unrivalled. This allows for immense game variety and linguistic localization, catering to a global player base. The production quality, from the studio design to the professionalism of the dealers, sets the industry standard.

• Innovation in Game Shows: Evolution revolutionized the space by creating a new category of "game shows" that blend traditional casino mechanics with interactive entertainment. These games, which are difficult to replicate, act as powerful player acquisition funnels.

• Technological Reliability: Providing a seamless, low-latency stream to millions of concurrent users is a significant technical challenge. Evolution's years of operational excellence have built a reputation for stability and trust that is paramount for its B2B customers.

3. A Look Under the Hood: Financial Performance

As of its latest reporting, Evolution’s revenue is dominated by the high-margin Live Casino segment, which constitutes over 85% of the business. The remainder comes from its RNG (Random Number Generator) or "slots" business, primarily built through acquisitions.

Geographically, Europe remains its largest market, but significant revenue is generated from Asia and a growing contribution from North America.

EBITDA Margin & Key Drivers: Evolution's profitability is exceptional, with historical EBITDA margins approaching 70%. This is driven by a powerful business architecture:

• Geographic Arbitrage: It generates revenue from players in high-income countries (Europe, North America) while basing its labour-intensive studio operations in lower-cost countries like Latvia, Georgia, and Malta.

• Operating Leverage & Scale: Once a studio is built, each new table and player adds revenue at a very high incremental margin. Its vast network allows it to serve thousands of operators from centralized production hubs, creating immense economies of scale.

Free Cash Flow & Capital Allocation: The business model is capital-light and generates enormous free cash flow, with a cash conversion rate often near 100%. Historically, capital allocation has been focused on:

1. Reinvestment: Modest organic CAPEX for new studios and games.

2. M&A: Acquiring RNG businesses to diversify.

3. Shareholder Returns: A growing dividend and, more recently, significant share buybacks.

4. Governance & Incentives

The company's founders retain 11% stake, while the largest shareholder is Kenneth Dart, owning 17% stake. CEO recently spent EUR6m to purchase 100,000 shares of Evolution AB, bringing his total ownership to 784,710 shares.

The Extra General Meeting on 9 November 2023 resolved to issue a maximum of 2,500,000 warrants. Each warrant entitles the holder to subscribe for one new share in the company for SEK 1,296.60 during the period from and including 16 November 2026 (however not earlier than the day after the publication of the company’s interim report for the period January–September 2026) up to and including the date that falls 14 calendar days thereafter. In total 1,995,389 warrants were subscribed. Given the share is currently trading at around SEK700 per share, it is likely that such warrants may expire next year worthless.

The annual general meeting in Evolution AB on 9 May 2025 resolved on an incentive programme under which the company invites approximately 250 employees within the group to acquire warrants in the company. Up to 2,050,000 warrants will be issued to the company or a wholly owned subsidiary and transferred to the participants of the incentive programme. Each warrant entitles the participant to subscribe for one new share, at a price equivalent to 130 per cent of the volume-weighted average price of the company’s share on Nasdaq Stockholm during a period from and including 2 May 2025 up to and including 8 May 2025. After a disappointing quarterly earnings announcement, the share price dropped by almost 20% on a single day, which could be good news for Evolution AB’s management team. It brings the share price to ~SEK670 during the 2-8 May period, therefore, the exercise price of the 2025-28 incentive plan is set to ~SEK870, a more achievable target that could incentivise the management team to act accordingly. I will explain later why this matters.

5. The Wall of Worry: Reasons for a Depressed Valuation

Despite its strengths, the stock trades at a valuation far below its historical average. This is due to a confluence of legitimate risks that have shifted the narrative:

• Regulatory Headwinds: The trend of "ring-fencing" in European markets (where countries regulate and tax their online gaming markets separately) and the potential for a clampdown on its unregulated market exposure create uncertainty.

• Margin Dilution: A necessary pivot to more heavily taxed and regulated markets will naturally pressure its industry-leading margins.

• Slowing Growth: The post-COVID normalisation of online activity, coupled with execution issues such as cyberattacks, has slowed growth in the high-potential Asian market, bringing an end to its era of 40-50% growth.

• Disappointing M&A: The expensive, dilutive acquisitions of RNG companies, such as NetEnt and Big Time Gaming, have, so far, failed to deliver the expected growth, raising concerns about the company's capital allocation prowess.

• Slow US Progress: The state-by-state legalisation of iGaming in North America has been slower than many investors had hoped, tempering growth expectations.

6. The Contrarian View: A Compounding Machine in Disguise

The market is punishing Evolution for no longer being a hyper-growth company. This misses the point. The investment case has transformed from one of explosive growth to one of resilient, compounding total shareholder return (TSR).

Consider this framework:

• Shareholder Returns as a Baseline: With a net cash balance sheet and immense free cash flow, Evolution is now returning significant capital to shareholders. It currently offers a dividend yield of over 4% and has been buying back nearly 4% of its shares annually. This provides a powerful floor of ~8% return.

• Modest Growth Delivers High Returns: The market is sceptical of a return to 20%+ growth. But Evolution doesn't need it. Suppose the company can achieve a modest, low-to-mid single-digit organic net profit growth of, for example, 4% per annum. In that case, the total shareholder return proposition becomes ~12% (4% growth + 8% capital return), assuming no change in P/E multiple. For a market leader with a deep moat, this is a highly attractive and achievable target that growth-oriented investors are likely to dismiss.

• A Maturing Industry Can Be a Benefit: A maturing industry is less attractive to new entrants, reducing competitive threats. Furthermore, it often leads to consolidation. We have already seen evidence of this with Light & Wonder exiting the Live Casino space, ceding market share to dominant players like Evolution.

7. The Real Risk: The Curse of Too Much Cash

In my view, the most significant long-term risk to Evolution is not regulation or competition, but poor capital allocation—what I call "the curse of making too much money and not knowing what to do with it".

The company's biggest failure in recent years was the expensive, 17% dilutive acquisition of NetEnt. This strategic misstep, aimed at diversifying into the slower-growth RNG space, was masked by the phenomenal concurrent growth of the core Live Casino business.

While Evolution is the undisputed leader in its core vertical, history is littered with market leaders who lost focus through value-destructive M&A. If management gets distracted by empire-building instead of protecting and innovating within its core business, even a seemingly conservative 4% profit growth target could be missed. The discipline to either return its vast cash flow to shareholders or reinvest it at a very high rate of return is the single most important factor that will determine its long-term success.

While the risk of poor capital allocation can’t be avoided, the lower exercise price of warrants relating to the 2025-28 incentive plan may reduce the management’s incentive to take excessive risk. To realise any profit from the warrants, they only need the share price to be above ~SEK870 by May 2028, i.e. ~13x P/E based on EUR6 EPS or ~12x P/E based on EUR6.5 EPS. They don’t need 20% per annum EPS growth from EUR5.22 in FY2024 to make this happen. In hindsight, it was a brilliant move to take proactive and self-initiated actions to ring-fence regulated markets in Europe, which drove the share price down by 20% ahead of the Annual General Meeting.

Conclusion

I have built a small position in Evolution since April and increased my investment after the disappointing quarterly result announcement on 30 April. This article provides a summary of my analytical framework, and I will continue to publish articles offering more in-depth analysis on key debates often misunderstood by investors.

I also want to recommend a subscription to Ali Gündüz’s Substack, which provides excellent coverage of Evolution AB and helps me understand its risk/reward profile.

BAT provided a 1H 2025 pre-close trading update yesterday. Revenue guidance for FY25 was increased from 1% to 1-2%, while adjusted profit from operation guidance remained unchanged at 1.5%-2.5%. This is primarily driven by better-than-expected U.S. cigarette performance, strong Velo Plus performance in the U.S. and Velo in the international market, partially offset by poor U.S. vaping performance due to the proliferation of illicit disposable vapes. Overall, there’s not much surprise. For a detailed overview of the trading update and conference call, please refer to this Tobacco Insider article.

BAT share price increased by 1.4% yesterday, versus a flattish FTSE100 index. I don’t know if there’s anything worth cheering. In this article, I want to do a deep dive into the following issues:

1. What drives the recovery of BAT’s U.S. cigarette category? Is it cyclical or structural?

2. How shall we look at the revival of BAT’s U.S. modern oral category?

3. Will Glo Hilo's launch in key markets in 2H 2025 reverse the multi-year decline in market share in the heated tobacco category?

4. Mid-teens revenue decline of VUSE - What happened? So what? What next?

5. How shall we see the NGP / smokefree portfolio as a whole?

U.S. cigarette category

U.S. consumers remain under pressure due to accumulated inflation and a prolonged high-interest-rate environment, resulting in weak consumer confidence and a high credit card delinquency ratio. This has prompted consumers to downtrade from premium cigarettes to deep-discount cigarettes. Due to the proliferation of illicit disposable vapes and the rapid growth of the modern oral category, cross-category movement adds to the pressure of volume decline.

On the other hand, cigarette consumption has historically been negatively correlated with gasoline prices. We are seeing a moderation in gasoline prices, although they remain significantly higher than the pre-COVID levels. Still, it has a positive impact on cigarette consumption, alleviating the pressure of volume decline (though the downtrading trend continues).

What remains to be seen is the impact of the tariff on U.S. consumer behaviour. This will take time to unfold.

At a company-specific level, BAT has tried to right the ship by identifying and focusing on the controllables:

• Price laddering of Newport by launching a “soft pack” version, which is slightly cheaper than the standard version, to address the downtrading concern.

• 10% increase in sales representative headcount in the U.S. to support increased retail outlet contract coverage from 82% in Q3 2023 to 88% in Q4 2024.

• More competitive pricing, supported by direct-to-consumer rewards, investment in data analytics and revenue growth management, enabling differentiated pricing across regions.

• Strong market share growth of Natural American Spirit in the premium segment and Lucky Strike in the branded discount segment.

All considered, the cross-category movement due to the proliferation of illicit disposable vapes remains a structural headwind that will persist until the U.S. government steps up enforcement against it, and the FDA will need to expedite the PMTA approval of flavoured pod-based vaping. We haven't seen any game-changing moves by the FDA thus far, though the new leadership may eventually implement changes. Downtrading to a deep discount category is more likely to be a cyclical issue, which may reverse once the impact of accumulated inflation fades and interest rates decline, assuming U.S. inflation remains stable.

Velo Plus and the U.S. modern oral category

BAT is delivering encouraging results in the U.S., driven by Velo Plus, with strong trial and retention rates driving total volume share of Modern Oral +550bps to 11.9% and triple-digit revenue growth. The statement above refers to BAT’s 1H 2025. Does it sound familiar to you? Let’s look at the comment and financials extracted from BAT’s 1H 2021 results.

In Modern Oral, Velo revenue increased 17% in the first six months of 2021 (to £8 million), or 29% at constant rates of exchange, as the Group invested in consumer acquisition and geographic expansion, with volume up 450%. Following the acquisition (in October 2020) of the nicotine pouch products from Dryft, the expanded range of products is now present in approximately 80,000 stores under the Velo brand and we will continue to build distribution further. Velo volume share has increased by 840 bps from FY 2020 to reach 16.0% May YTD 2021 in a competitive market.

What has happened since then? Let’s look at the FY2021 full-year results. While the first half produced GBP8m revenue on 405 million pouches volume (i.e. GBP0.4 revenue per 20-pouch can), the second half produced negative GBP6m revenue on 197 million pouches volume (i.e. negative GBP0.6 revenue per 20-pouch can).

In Modern Oral volume was up 272% with reported revenue down 82% (2021: £2 million; 2020: £10 million) in a highly competitive market, as the Group invested in promotional pricing and the national roll-out of the Velo branded nicotine pouch products. The expanded range of products is now available in over 110,000 stores under the Velo brand. Velo volume share increased 410 bps from 2020 to reach 11.7% in December. While growing year on year, driven by distribution expansion by the Group and other industry participants, the Modern Oral segment remains small, only representing around 1.6% of total nicotine value share. Low levels of average daily consumption due to high levels of poly-usage with other nicotine categories supports the Group’s multi-category approach.

While it is relatively uncommon, revenue can be negative in extreme cases, as seen in the example mentioned above. To BAT, negative GBP6m revenue can easily be lost in the rounding, so it doesn’t make sense for them to elaborate on the fact that “the Group invested in promotional pricing”. To understand this, we will have to look at BAT’s accounting policies as found in its annual report.

Revenue principally comprises sales of cigarettes, other tobacco products, and nicotine products, to external customers. Revenue excludes duty, excise and other taxes related to sales in the period and is stated after deducting rebates, returns and other similar discounts and payments to direct and indirect customers.

In other words, if the aggregate amount of rebates, returns and other similar discounts and payments to direct and indirect customers exceeds the after-tax sales, then revenue can be negative. To put it in perspective, let’s compare the NielsenIQ retail sales data versus the reported financials by BAT in 2021 concerning Velo. Remember that BAT don’t sell its products to consumers directly. BAT first ships its products to wholesalers, such as Performance Food Group (NYSE: PFGC) and McLane Company (owned by Berkshire Hathaway). These wholesalers then distribute the products to convenience stores and gas stations for sale to consumers. When volume growth reported by BAT vastly exceeds retail sales growth, it raises a red flag, indicating a risk of sales decline.

Furthermore, to conduct a national roll-out of a product that lacks competitiveness, it involves heavy subsidies to wholesalers and retailers in the form of “rebates and promotional incentives”. You may find a detailed description below, which I extracted from Performance Food Group’s annual report.

We participate in various rebate and promotional incentives with our suppliers, either unilaterally or in combination with purchasing cooperatives and other procurement partners, that consist primarily of volume and growth rebates, annual and multi-year incentives, and promotional programs.

To put the above-mentioned in perspective, even if BAT is willing to offer its products to consumers for free, its network of wholesalers and retailers won’t do it for free and needs to charge a certain margin. Let’s suppose selling a can of ZYN at a US$1 profit margin for the retailer (not unreasonable, given the average sales price of US$5.36 in December 2021) and VELO sources its customers from ZYN. Why should a retailer seek less than a US$1 profit margin from selling VELO?

I am not suggesting that the tragedy in 2021 will repeat in 2025, as Velo Plus appears to be a more competitive product, based on user feedback. Still, it will take time to observe its market share momentum after BAT reduces promotional investment and increases pricing. Retailers don’t care whether the market leader is ZYN, On! or Velo Plus, as long as they can earn the profit margin that they are entitled to.

Glo Hilo launch and the heated tobacco category

Glo’s volume share in top markets -90bps, driven by a highly competitive environment in Japan and the continued phase-out of legacy, super-slims platform. AME volume share -10bps, with continued share growth in Poland, Czech Republic and Spain, and a stable share performance in Italy, offset by competitive dynamics in Germany and Romania. I think we can conclude that Glo Hyper Pro doesn’t live up to its expectations. The legacy platform is believed to be in collaboration with BYD Electronic (285. HK), and it will be phased out gradually. All eyes are on Glo Hilo, BAT’s latest heated tobacco platform in cooperation with Smoore International (6969.hk).

As I mentioned in my previous article, Glo Hilo pilot launch in Miyagi Prefecture (宮城県), Glo Hilo will be available in Miyagi Prefecture (宮城県) starting from 9th June. We will need to see the market share data several quarters after the nationwide launch to assess its performance. Even for IQOS Iluma, it took around three quarters since its initial launch for the market share to show a meaningful change.

To add a bit more colour to it, I would like to share an expert interview article (with someone working at Smoore International) with you, which was first posted by a user on Xueqiu. The article is in Chinese, but you may use the auto-translate function of your web browser to read in English.

思摩尔国际(HK:06969)专家交流20250522

The feedback from the expert is consistent with my previous article, Smoore & Glo Hilo - Taking 10 Years to Sharpen a Sword (十年磨一劍). While only Japanese consumers can tell whether Glo Hilo is a good product, we know for sure BAT has licensed the proprietary processing technology IP owned by Smoore (i.e., how tobacco leaves are processed to form tobacco sheets for heating) with an ongoing royalty payment/profit-sharing arrangement linked to shipment volume. If Glo Hilo becomes a successful product, Smoore may then license its heated tobacco technology to other tobacco companies, for example, China National Tobacco Corporation.

BAT currently only takes care of manufacturing, marketing, and branding, as well as legal compliance, while leaving R&D, sales, and distribution to third parties. Since BAT doesn’t own the core IP to the Glo Hilo platform, even if it manages to gain market share in Japan and Italy, over the long run, it could be a costly victory with low reward. Think about the potential competitions and profit sharing by Smoore.

Vuse and the vapour category

Vuse’s global value share in top markets flat, with continued global leadership in tracked channels. Expect mid-teens revenue decline in H1, mostly driven by illicit Vapour headwinds in U.S. and Canada.

As the proliferation of illicit disposable vapes continues in the U.S., Vuse’s largest market, everything else doesn’t matter. When the legal market is shrinking, there’s not much within BAT’s control to rectify the situation. As I have mentioned many times, we must face the reality that enforcement will never be entirely effective. As the former head of research at General Motors, Charles Kettering once said, “A problem well-stated is half-solved”. If the U.S. government continues to believe that the black market in the U.S. is driven by the influx of disposable vapes from China, then it will remain a persistent problem. In light of the U.S. regulatory environment and trade policies, many Chinese e-cigarette manufacturers have established a manufacturing footprint in Southeast Asia. I would refer to the following article for more details.

Geekvape Unveils New Indonesian Factory: Revisiting Relocation of China's Vape Supply Chain

Qisitech, the company behind Geekvape, opened a new factory in Indonesia in 2023, creating more than 1,000 local jobs. While it takes years for the U.S. FDA and other government agencies to approve the legal product, tighten state legislations and step up enforcement, it only takes months or even weeks for Qisitech to relocate machinery and find a new shipping route. Who is to be blamed for creating this USD7bn black market and trade deficit?

While BAT also mentioned “Improving H2 revenue performance, driven by the phased roll-out of our new premium Vapour product, Vuse Ultra, and continued targeted resource allocation”, so far I haven’t seen any traction in Canada yet, where Vuse Ultra was launched in April 2025.

For investors tracking the performance of Vuse based on NielsenIQ data, I also want to highlight the fact that retail sales fell short of shipments from BAT in FY2024, indicating potential retail inventory de-stocking in FY2025. My estimate would be around 10% impact on volume in FY2025 if the excess retail channel inventory were entirely unwound.

NGP / smokefree portfolio

BAT mentioned that “We expect low-single digit New Category revenue growth in H1, accelerating to mid-single digit for FY. Excluding the impact of the U.S. and Canada Vapour markets, we expect double-digit New Category revenue growth for FY.” Whenever there’s any weakness in specific categories or geographies, BAT’s narrative has always been consistent. It is operating a multi-category business across multiple geographies. Investors can’t expect BAT to fire on all cylinders, but we shall expect stability of the overall Group performance.

While I agree with the above, I also want to add that what makes the NGP / smokefree portfolio very different from its combustible business is that the NGP / smokefree category is always subject to higher capex intensity, heavier R&D investment and sales & marketing expenses due to the continuous evolution of product formats and consumer preferences. Glo Hyper was once successful in 2020-2021, but what’s next? Vuse was growing nicely in 2021-2023, but what’s next? Velo picked up the torch in 2024-2025, but what’s next? It is a never-ending story.

In some cases, the regulatory environment is to be blamed. If we take a step back, a lack of commitment and urgency can be equally, if not more, damaging. While a multi-category approach offers diversification benefits, it also compromises accountability in case of failure. Being fully committed to a competitive category may risk failure, but adopting an experimental approach almost guarantees it. The inability of the Glo Hyper platform is a good example illustrating that. BAT simply moves on to its next experiment, Glo Hilo.

It is worth noting that while BAT raised its revenue guidance for the full year, the additional revenue doesn’t flow to the bottom line, as it decides to deploy the extra revenue for product rollout in 2H 2025, such as Velo Plus (expansion of retail outlet penetration from 110,000 to 130,000 in the U.S.), Glo Hilo (launch in Japan and other key markets in Europe) and Vuse Ultra. Let’s be patient and see how that unfolds.

As usual, there’s no buy/hold/sell recommendation or target price in my article, but you may find everything else you need to take away from BAT’s pre-close trading update. Hope you enjoy reading!