32-251-XIE

Manufacturing, Construction and Energy Division

CIGARETTE SALES IN SLOW DECLINE

Peter Zylstra

October 1999

Introduction

Although the Tobacco Product Industries is the smallest manufacturing major group in Canada (in terms of employment), health issues related to smoking make the industry a target for attention from governments and lobby groups and provide the industry with a high profile in the media.

Among manufacturing industries, the industry has the highest value added proportion of shipments and pays its employees the highest annual remuneration. In addition to cigarettes, the Tobacco Products Industries produce cigars, fine cut tobacco and tobacco leaf. But, with 76% of the value of shipments for the Major Group, cigarettes are by far the primary commodity produced. Total sales of cigarettes are in a longer-range downward trend. Since the early 1980s there were mainly minor decreases in numbers of cigarettes shipped and total numbers have declined from more than 65 billion to less than 50 billion(1).

The pattern of decline was interrupted during the early 1990s when notable increases in exports of Canadian cigarettes, mainly to the United States, concurred with increases in taxation of the product. An undetermined amount filtered back to the Canadian domestic market, however, and the sum of exports and domestic shipments never varied much. Growing exports finally caused total shipments to turn upward. In 1994, when taxes were reduced, exports returned to earlier levels, and pent up domestic demand resulted in another year of growth.

The following discussion of the Tobacco Products Industries is based on the latest results from the Annual Survey of Manufactures (ASM). As well, data from the monthly Production and Disposition of Tobacco Products Survey and other sources are used to provide industry performance and background information.

Recent developments impact on Tobacco Products

Social trends and health considerations on the part of the consumer have a negative effect on demand for cigarettes(2) and other industry products. As a matter of public policy, governments have passed legislation over the years dealing with labelling and advertising and have regularly increased excise and cigarette taxes. These factors taken together led to steadily decreasing numbers of cigarettes being sold up to 1992.

• International Trade

While taxation on tobacco products was accelerated between 1988 and 1993, Canadian tobacco manufacturers started to export a growing portion of production, mainly to the United States (Figure 1. Exports and imports of cigarettes). With these exports the industry attempted to maintain production levels in the face of declining domestic sales. The number of cigarettes exported, which had been below one billion until 1986, began to rapidly increase in the following years. It more than doubled each year in 1991 and 1992 and almost doubled again in 1993, when it reached 17 billion. An unmeasured portion of these exports, however, returned to the Canadian domestic market, rather than being consumed in the country of destination. The increases in numbers exported were offset by similar decreases in domestic sales and total shipments were little affected until 1993, when increased exports caused an up-turn (Figure 2. Number of cigarettes shipped – total and exports).

This unusual trend abruptly reverted to earlier conditions when taxation was changed in early 1994. The federal government decided to roll back excise taxes and many of the provincial governments followed suit with matching cuts. However, an uneven reduction has resulted in taxes, and prices for the consumer, being lower in central Canada than in western and eastern provinces. This in turn has initiated a certain amount of inter-provincial purchase and resale.

Although the number of cigarettes that were exported fell from 17 billion in 1993 to seven billion in 1994, total shipments still reached an eight year high level of 53 billion as domestic demand was boosted by lower prices. The consumer price index for 1994 increased 0.2%; it would have grown 1.6% without tobacco products but cigarette tax cuts pulled down overall consumer expenditure(3).   After the 1994 banner year, shipments started to fall off again. Since 1995 there have been regular minor tax increases and new legislation was tabled to regulate cigarette advertising and other industry practices(4).  In 1997, the federal government encountered stiff opposition to this legislation, especially in the area of advertising and sponsorship(5).

Industry Structure: cigarettes are the major product

The Tobacco Products Industries (Major Group 12) consists of the Leaf Tobacco Industry (SIC 1211) and the Tobacco Products Industry (SIC 1221). The Leaf Tobacco Industry processes and ages leaf tobacco, most of it grown in Ontario, and subsequently ships its output mainly to the Tobacco Products Industry. In 1997, shipments were $468 million dollars. Practically all processing takes place in Ontario, while minor portions of output are shipped from Prince Edward Island and Quebec.

The Tobacco Products Industry engages in the manufacture of commodities for final consumption. It is the larger of the two industries, accounting for 83% of the major group’s total manufactured shipments and 97% of its manufacturing value added. Cigarettes are the major product, accounting for 91% of the value of shipments of the four-digit industry (SIC 1221). Other products include cigars and fine-cut tobacco. More than half of all manufacturing takes place in Quebec with the balance originating in Ontario and the remaining portion in New Brunswick.

Increase in prices maintains sales growth

• Cigarettes

With few exceptions, there has been a trend of minor decreases in the annual quantity of cigarettes shipped each year. The number has come down from between 64 and 67 billion cigarettes in the early 1980’s to 47.8 billion in 1997. Shipments increased marginally to 48 billion in 1998 and volume for May 1999 year-to-date was at the same level as the year before.

• Cigars

A similar pattern exists with cigars, for which the annual number shipped by Canadian manufacturers has slowly declined from 428 million in 1980 to 137 million in 1998. The third major product of the industry, fine cut tobacco, was temporarily used as a cigarette substitute when prices were on the rise. It saw an increase in quantity shipped from around 5 million kilograms in the early 1980s to almost 9 million kg in 1991. After this year it gradually came down again to slightly above 4 million kg in the later 1990’s(1). 

• Value of sales steadily increasing for the Tobacco Products Industry

Apart from the longer-range downward trend in quantities shipped of its main product, the current value of sales has been steadily increasing for the Tobacco Products Industries (Major Group 12, the total of the two sub industries). Results from the Annual Survey of Manufactures (ASM) show that, despite declining quantities of cigarettes sold (and declining constant dollar value of manufactured shipments), the current dollar value of sales is regularly growing (Figure 3. Value of shipments – current and constant dollars).

The value of shipments, which had fluctuated annually by less than 5% since 1982, jumped 23% in 1994 to a record high of $2.5 billion. After this initial reaction to the lower taxes, the previous pattern of small increases returned in 1995 and 1996 when shipments increased 1.4% and 6.6%. Shipments reached $2.8 billion in 1997, a gain of 5.2%, whereas constant dollar shipments fell 1.7% to $2.2 billion. Thus, the industry is faced with steadily declining product demand but has experienced stable value of shipments and higher unit prices.

• Value added continues to increase

Tobacco product manufacturers are a small industry in terms of output and employment. In terms of employment, they are the smallest among manufacturing major groups and produce less than 1% of total manufacturing Gross Domestic Product(6).  All the same, in relative terms, the industry is a high value added performer. Value added has steadily been increasing from 60% at the beginning of the decade to 67% of production in 1997. This is well above the manufacturing average of 40%(7).

While the value of outputs increased, gross inputs (the cost of materials, supplies, fuel and electricity) for 1997 declined 2.4% to $923 million. The proportion of inputs to outputs has been regularly declining from 40% in 1991 to 33% in 1997. Out of total gross inputs, the cost of materials and supplies was $913 million, with the biggest single input being tobacco at a cost of $669 million.

Capacity utilization, which had strengthened from 69% in 1990 to 84% in 1996, fell back to 81% in 1997. The higher rates of capacity utilization in turn have boosted capital expenditure to increase 9% and 16% in 1997 and 1998 respectively.

Highly skilled workers and higher wages

Production wages saw an increase of less than 1% in 1997 to $141 million. The number of production employees has mainly decreased since 1992 and with employment at 2,363 in 1997, the Tobacco Products Industries are the smallest employer among manufacturing major groups. Manufacturing employment had decreased to 2,350 in 1996 and although it saw marginal growth (+0.6%) in 1997, this was well below the growth in employment for total manufacturing of 4%.

Although the labour force is small, it is relatively more skilled than that of other manufacturing industries, which is apparent from the occupation mix. One third of full time workers are either managers, scientists or industrial mechanics whose salary is well above the industry average. The remainder consists of mainly machine operators and administrative occupations whose average hourly rates vary around $25(8).  As a result, Canadian tobacco processors pay higher than average wages. The hourly rate increased by 7% in 1997 and at $32 was almost three times that of the all-manufacturing rate.

Production per worker is changeable but stays relatively high due to the automated manufacturing process of the industry. The production per worker rate fell, in real terms, from $776,000 in 1991 to $701,000 in 1993, advanced to a high level of $966,000 in 1996 and dipped down again to $940,000 in 1997. This is still more than three times the all-manufacturing industries average. With the increase in production per worker exceeding that of annual average wages, unit labour cost (wages/production) dropped 4% in 1997.

Conclusion

Manufacturers’ shipments of cigarettes reached a high level in 1994 in reaction to lower consumer prices following high tax levels. Apart from the surge in 1994 and from occasional up-turns, the last one of which was in 1997, numbers shipped are back in a longer range, slow decline (Figure 4. Monthly cigarette shipments, seasonally adjusted and trend, 1996-1999). Nonetheless, value of sales has kept growing steadily.

Tobacco production remains an industry with growing revenues, high value added and high production per worker relative to the rest of the manufacturing sector. Product demand is fairly inelastic but is in a longer-range downward trend as a result of health concerns and legislation. Household spending on tobacco products was on average $530 in 1996, down 35% since 1992. And although this was almost entirely due to the lower taxation, the proportion of households reporting expenditure on tobacco also edged down from 47% to 44%(9).  Lawsuits may eventually have a negative impact on the North American industry(10).  Recent issues such as the effects of second-hand smoke(11) and other health effects of smoking have elicited class action, federal, state and provincial suits being filed(12).

After the strong growth in 1994, the industry continued for three years with its pre-1990's pattern of small increases in value of shipments, declining quantities sold and low exports. However, data from the Monthly Survey of Manufacturing (MSM) indicate current dollar growth of 4.4% for 1998 shipments(13), which deflated by Industrial Product Price Index growth of 3.3%(14) would mean a slight increase in real terms. Real GDP for the industry also saw minor growth in 1998, by 2.6% to $1,075 million.

The total area planted with all types of tobacco is surveyed annually. It is used as a leading indicator for tobacco production and showed an increase in level of 9% for the 1997 crop, which was used in 1998 production(15).

These were positive indicators for 1998, however, the outlook for 1999 regarding intended investment in capital expenditures is down 36%.

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References

1.  Statistics Canada, Production and Disposition of Tobacco Products, Catalogue No. 32-022-XIB.

2.  Globe and Mail, "World health body takes aim at tobacco", January 1997.

3.  Statistics Canada, Consumer Price index, Catalogue No. 62-001-XPB.

4.  Globe and Mail, "Ottawa, five provinces hit smokers with tax hike", February 14, 1997.

5.  Ottawa Citizen, "Tough tobacco lobby shakes federal government resolve", February 5, 1997.

6.  Statistics Canada, Gross Domestic Product by Industry, Catalogue No. 15-001-XPB.

7.  Statistics Canada, Manufacturing Industries of Canada, Catalogue No. 31-203-XPB.

8.  Statistics Canada, 1996 Census - Occupation by Industry.

9.  Family Expenditure Survey, Household spending, 1996.

10.  The Economist, "Tobacco outclassed", February 15, 1997.

11.  Statistics Canada, Canadian Social Trends, Summer 1998, Catalogue No. 11-008-XPB.

12.  Ottawa Citizen, "Cigarette profits soar" Aug 10, 1999.

13.  Statistics Canada, Monthly Survey of Manufacturing, Catalogue No. 31-001-XPB.

14.  Statistics Canada, Industry Price Indexes, Catalogue No. 62-011-XPB.

15. Statistics Canada, Fruit and vegetable production, Catalogue No. 22-003-XPB.

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This article was written by Peter Zylstra. Peter is a Statistics Canada economist in the Manufacturing, Construction and Energy Division.

Further information on Canadian manufacturing can be found in the publications Manufacturing Industries of Canada: National and Provincial Areas (Catalogue 31-203-XPB), available annually for $68 per issue in Canada and for $68 U.S. outside Canada, and Products Shipped by Canadian Manufacturers (Catalogue 31-211-XCB), available annually for $430 per issue in Canada and for $430 U.S. outside Canada. Order these products and other Statistics Canada publications by telephone, dial 1-800-267-6677, by fax: 1-800-889-9734, or by Internet.

For more information about manufacturing data or time-series, call the Disclosure and Dissemination Unit, Manufacturing, Construction and Energy Division at (613) 951-9497 or by Internet: manufact@statcan.gc.ca.   For information from International Trade Division telephone 1-800-294-5583 or by Internet: trade@statcan.gc.ca.