TOKYO -- Despite a string of well-received acquisitions in Southeast Asia, Japan Tobacco shares are trading around 10% lower than their high for the year in May as investors weigh the possibility of a domestic tax increase on a promising new money maker.
"The market has its eyes on domestic business risks," said Satoshi Fujiwara, an analyst at Nomura Securities. JT's domestic operations still account for about 40% of operating profit despite faster expansion overseas.
Japan's tobacco market is shrinking as smoking rates decline. JT sees its Ploom Tech brand of heated-tobacco products -- a smoke-free method that uses a special device to heat rather than burn the leaves -- as the way forward in this changing industry.
Sales of Ploom Tech in Tokyo began at the end of June with plans to expand nationwide by the first half of 2018. "Heated tobacco will grow to over 30% of the domestic market in 2020," predicted one JT executive, as Philip Morris International and other rivals in the industry tout their own products.
Heated-tobacco products are twice as profitable as cigarettes, according to one analyst's estimation. Observers have been expecting JT's profitability to improve if Ploom Tech grows as a share of total sales.
Politics could upset this scenario, however. The ruling Liberal Democratic Party's tax policy commission recently said it will consider a tax increase on heated-tobacco products as part of fiscal 2018 tax reforms, flashing a warning sign for investors.
Japan's tobacco tax amount is determined by the weight of the tobacco in the product. A standard pack of 20 cigarettes currently fetches about 240 yen ($2.17) in taxes while the Ploom Tech equivalent is just 34 yen or so.
JT has won praise for acquisitions in emerging markets where smoking is still strong. In August, it announced the purchase of an Indonesian maker of kretek, or clove cigarettes, and its distributor for about $1 billion including debt, and agreed to buy production and distribution assets from Philippine tobacco company Mighty for 46.8 billion pesos ($936 million). "These aren't overpriced purchases," said Masashi Mori, an analyst at Credit Suisse Securities, noting that acquisitions are an effective way of entering Southeast Asian cigarette markets, where distribution chains are difficult to penetrate.
All the same, a domestic tax hike would deal JT a heavy blow. "I thought profitability would increase in fiscal 2017, but my assumptions are way off now," said Nomura's Fujiwara. The LDP committee is expected to reach a conclusion at the end of the year. For now, however, JT shares are lagging an upturn in the Nikkei Stock Average as the threat of a higher tax overshadows the company's promising acquisitions.