U.S. Flue-Cured Tobacco Situation & Outlook TGANC 2017 Dr. Blake Brown Hugh C. Kiger Professor Agriculture & Resource Economics College of Agriculture & Life Sciences

Global Supply: U.S., Brazil and Zimbabwe Flue-Cured Tobacco Production Source Brazil & U.S.: Universal Corporation. “World Leaf Production as of November 8, 2016.” Source Zimbabwe: Zimbabwe Tobacco Association “Weekly FCV Report 26.07.2016”

US Flue-Cured Exports and Domestic Disappearance

Global Tobacco Manufacturing Annual growth 2011-2015 of 3.6% in VALUE of sales to $643.8 billion in 2015 From 2016-2020 Value of sales expected to increase at an annual rate of 1.8% to $703.8 billion Continued volume declines in mature markets with growth in emerging markets Number of smoking age adults increases Increases in disposable income cause some smokers to trade up to premium tobacco products Source: IBISWorld

“Philip Morris could stop making conventional cigarettes” BBC News November 30, 2016 iQOS did well in test markets…PM plans to introduce into additional markets

US Tobacco Products Market Cigarette consumption continues steady decline Industry revenue declines at annual rate of 2.3% 2012-2016 to $37.6 billion Strong profit growth over last 5 years; $12.1 billion in profit estimated to account for 32.7% of revenue in 2016 Industry revenue expected to decline at an annual rate of 2.4% to $33.3 billion in 2021 Source: IBISWorld

How does a declining industry have strong profit growth? Acquisition of profitable smokeless companies Aggressive consolidation Acquisition of other manufacturers Combining production facilities Reducing employment through consolidation of production

How does a declining industry have strong profit growth? Unprecedented pricing power

How does a declining industry have strong profit growth? Unprecedented pricing power an addictive product

How does a declining industry have strong profit growth? Unprecedented pricing power an addictive product by being one of the most heavily regulated industries in the world

So what can you take back to the farm…? Consolidation That’s what you’ve been doing for years Is there more you can do…?

Cost for 200 acres % of Total PLANTS $ 48,000 FERLIZER & LIME $ 77,756 $ 48,000 6.7% FERLIZER & LIME $ 77,756 10.8% CHEMICALS $ 120,292 16.7% CURING FUEL $ 65,000 9.0% ELECTRICITY $ 25,280 3.5% OTHER $ 42,804 5.9% CROP INSURANCE $ 24,000 3.3% TRACTOR, MACHINERY FUEL, LUBE, REPAIRS $ 28,074 3.9% LABOR $ 246,238 34.2% INTEREST $ 12,454 1.7% LAND RENT $ 30,000 4.2% TOTAL VARIABLE COSTS $ 719,898

Labor Use in Tobacco Labor estimates for hand harvest Pre-harvest: 46 hours Harvest: 60 hours Post Harvest: 9 hours 115 hours total

Adverse Effect Wage Rates for North Carolina 2011 2012 2013 2014 2015 2016 2017 $9.30 $9.70 $9.68 $9.87 $10.32 $10.72 $11.27

So what can you take back to the farm…? Consolidation Spreading overhead costs over more production Regulatory Compliance ...as a competitive advantage?

Some Take-Aways Exchange rates favored increased Brazilian production; 2017 Brazilian flue-cured production is up at over 1.4 billion pounds

Some Take-Aways Exchange rates favored increased Brazilian production; 2017 Brazilian flue-cured production is up at over 1.4 billion pounds Contracted pounds and production decline slightly in 2017

Some Take-Aways Exchange rates favored increased Brazilian production; Brazilian flue-cured production is up at over 1.4 billion pounds Contracted pounds and production decline in 2017 Despite continued reductions in cigarette consumption and increases in taxation and regulation, industry profits remain strong

Some Take-Aways Watch the “heat-not-burn” category Exchange rates favored increased Brazilian production; Brazilian flue-cured production is up at over 1.4 billion pounds Contracted pounds and production decline in 2017 Despite continued reductions in cigarette consumption and increases in taxation and regulation, industry profits remain strong Watch the “heat-not-burn” category

Some Take-Aways Exchange rates favored increased Brazilian production; Brazilian flue-cured production is up at over 1.4 billion pounds Contracted pounds and production decline in 2017 Despite continued reductions in cigarette consumption and increases in taxation and regulation, industry profits remain strong Watch the “heat-not-burn” category Opportunities for flavor style producers are in countries where smokers are expected to “trade up” to premium brand cigarettes

Some Take-Aways What is your competitive advantage? Quality Cost Exchange rates favored increased Brazilian production; Brazilian flue-cured production is up at over 1.4 billion pounds Contracted pounds and production decline slightly in 2017 Despite continued reductions in cigarette consumption and increases in taxation and regulation, industry profits remain strong Watch the “heat-not-burn” category Opportunities for flavor style producers are in countries where smokers are expected to “trade up” to premium brand cigarettes What is your competitive advantage? Quality Cost Compliance

Executive Farm Management Program for NC Sweet Potato and Tobacco Farmers Key Topics Strategic Planning Human Resource Management Financial Management Leading Change Risk Management Family Business Issues Assessing Markets Assessing and building key partnerships Strengthening your value proposition