China’s STMA and the Tobacco Monopoly

by

By Allen Liao

Getting to the bottom of the structure of China’s tobacco industry is often difficult, but Tobacco Asia hopes to set everyone straight here not only on the structure, but on all the existing enterprises and their brands and strengths.

Under China’s longstanding system of state tobacco monopoly, cigarettes are regulated by the law on monopoly and are thus a special type of commodity exclusively sold and traded by the government.

For consumers, it is common to buy a pack of cigarettes from a retailer. But how does this pack of cigarettes go from producer to consumer? Some may say they go through the standard steps of production, distribution, and retail before they eventually land in the hands of consumers. Indeed, cigarette production and marketing in China do, at first glance, comply with such basic processes, but the realities are definitely different than that.

So, what is different then? Let’s take a look back at what happened with the tobacco trade in the landmark year of 1981. That year, the state council (central government)  – decided to introduce the tobacco monopoly, incorporating China National Tobacco Corporation (CNTC) as the central agency to take charge of the industry on a unified basis.

In January 1982, CNTC was officially incorporated. However, without the existence of a specialized central government agency in charge, it was impossible to realize a true state tobacco monopoly. Therefore, in September 1983, the council issued its regulations on tobacco monopoly to officially establish such a system and established the State Tobacco Monopoly Administration (STMA) on the basis of CNTC in January 1984. This made it possible for STMA to exercise unified, centralized leadership and vertical management over the tobacco industry in terms of human resources, funding, assets, production, supply, marketing, and domestic and foreign trade.

Although the monopoly was created, the change was not technically reflected in state legislation. Therefore, the Standing Committee of the National People’s Congress (China’s national legislature) enacted the Law of the People’s Republic of China on Tobacco Monopoly in June 1991, officially bringing the state tobacco monopoly system into the framework of law. Under the legislation, the state systematically and exclusively organizes production and marketing of tobacco products and administratively applies the system of licensing.

As also prescribed by the law, the state exercises unified and centralized management over annual planning for production and marketing of cigarettes, and retailers nationwide have to each obtain a license issued by the government.

In July 1997, the state council issued the “Regulations of the People’s Republic of China on Application of the Law on Tobacco Monopoly”. Under China’s law on legislation, regulations issued by the state council belong to administrative regulations, which are positioned below national laws in terms of legally binding force. More recently, at its 14th session held last April 24, the standing committee of the 12th NPC adopted the “Decision on Revision of Five Laws Including the Law of the People’s Republic of China on Measurements”, providing for revision of many parts of the law on tobacco monopoly, which contributed to further consolidation and improvement.

It needs to be made clear that that STMA is an administrative agency of the central government, which represents the government in exercising administrative management over the tobacco trade, and that since the establishment of STMA, CNTC has been converted into an enterprise under STMA management.

Today, there are 33 provincial-level commercial enterprises and 17 manufacturing enterprises in tobacco under CNTC’s umbrella. Elsewhere in the world, many transnational tobacco giants, such as Philip Morris International, Imperial Tobacco, and British American Tobacco, all have their own cigarette brands and cigarette production and marketing systems. In other words, not only do they produce cigarettes, but also directly supply cigarette products to distributors, which in turn, re-sell cigarettes to retailers. Through those retailers, the cigarette products eventually land in the hands of consumers.

In comparison, the power to oversee cigarette production and marketing is concentrated in the hands of CNTC, but the corporation itself does not directly produce or market cigarettes. Rather, it has its affiliated enterprises that do the work of cigarette production and marketing. Of the enterprises affiliated with CNTC nationwide, the 17 tobacco manufacturing enterprises are mainly in charge of research and development as well as production of cigarette products. Thus, the cigarette products made by them can only be supplied to the commercial enterprises under CNTC as a special group of “wholesalers”. As opposed to wholesalers of other commodities that operate numerous wholesale channels, tobacco wholesalers can only be commercial enterprises of the tobacco industry, and are excluded by the law on monopoly from any other wholesale channels. The 33 provincial-level commercial enterprises, designated by the government as exclusive “wholesalers” of cigarettes, only distribute cigarette products they purchase to the numerous retailers who much hold a valid monopoly license. It is those retailers that eventually sell cigarettes.

The 33 aforementioned provincial enterprises correspond to the 33 provincial-level regions (provinces, municipalities directly under the control of the central government, and autonomous regions) across China, with each region represented by a single commercial enterprise of the tobacco industry. However, these enterprises are not directly in charge of cigarette sales. Rather, they are responsible for overall planning for cigarette marketing quotas and cigarette marketing strategies, etc. in their respective provinces. Instead, the entities that are specifically responsible for cigarette sales are only those under their control – prefecture-level commercial enterprises.

Whether a cigarette brand can gain traction and consumer recognition depends to a great extent on its development, almost irrespective of product quality. For the time being, cigarette brands in China are not highly centralized, with a chaotic structure of “specifications”. The numerous existing brands are quite different from each other in terms of their strengths or weaknesses. This leads to a situation where development of cigarette brands actually faces both opportunities and challenges. Which is why brand development is of particular importance for whether or not a brand can stand out from the crowd. The tobacco commercial enterprises play a very important role in brands development in China.

Presently, each of the 17 manufacturing enterprises in tobacco has 2-3 cigarette brands, and each of their factories manufactures those specific branded products. Different from the 33 provincial-level commercial enterprises, the 17 manufacturers only represent some of the Chinese regions. In the future, the number of manufacturing enterprises may shrink, which is related to the strategy of the industry to promote development of extra-large brands, and is an inevitable step for the development of the industry. Disadvantaged manufacturing enterprises will be phased out, and resources of the manufacturing sector of the tobacco industry will be concentrated around the most capable enterprises and brands.

In 2014, the Chinese tobacco industry generated a total of RMB1.05176 trillion (US$166.9 billion), an increase of RMB95.77 billion, or 10.02%, year-on-year. Last year, the industry paid a total of RMB911.03 billion to the government in taxes and revenues, up RMB94.91 billion, or 11.63%, year-on-year. Obviously, its results look great. The growth can be attributed to the system of state tobacco monopoly, as well as concerted efforts on the part of both the manufacturing and commercial enterprises.

Although manufacturing and commercial enterprises in tobacco are separate from each other, there are some exceptions. For example, Shanghai Tobacco Group (STC) is one that is both manufacturing and commercial, and is a large intensive and modern state-run enterprise with business diversification mainly based around the local tobacco industries in Beijing, Shanghai, and Tianjin. Today, STC also works in the supporting sectors, such as tobacco products storage and transportation, printing, raw materials supply, etc, and operates diversified businesses in the sectors of logistics, hotel operation, finance, insurance, and others, with a controlling stake or shares in nearly 50 other enterprises.

In 2014, STC produced a total of 139.52 billion cigarettes (2.7904 million cases), up 2.03% year-on-year; sold 146.58 billion cigarettes (up 5.29%) and generated RMB108.378 billion (US$17.2 billion) in manufacturing and commercial taxes and profits (10.13%), with manufacturing and commercial profits reaching a high of RMB26.479 billion (up 8.79%). In particular, STC’s high-quality cigarette products under such famous brands as Chunghwa, Zhongnanhai, Red Double Happiness, and The Panda sell very well and are also exported to many countries around the world.

Since 2013, STC has actively developed new markets overseas, with its Chunghwa, Zhongnanhai, Red Double Happiness, and Golden Deer brands entering 13 taxable and duty-free markets in Austria, Denmark, Turkey, Singapore, Myanmar, Yemen, Namibia, Paraguay, etc. The group’s brands are sold sold in 81 countries around the world. Moreover, STC managed to upgrade the level of its joint-venture operations by taking advantage of the projects under license with Nanyang Brothers Tobacco of Hong Kong and the US Tobacco Cooperative, and developed new markets for its Red Double Happiness in Chile, Argentina, Mongolia, Mexico, Singapore, and other countries. The company managed to introduce its medium-grade Golden Deer brand in Panama and Peru in Latin America. After 30 years of development, Zhongnanhai has emerged as the number one blend-type brand in China, and has become a representative Chinese blend-type cigarette product for international markets.

China’s largest tobacco-growing province of Yunnan is popularly known as the “Kingdom of Tobacco” with a long history of tobacco growing, it also boasts many well-known brands. Integrating the operations of cigarette production and marketing, matching supply of tobacco materials, scientific and technological research, and business diversification. China Tobacco Yunnan Industrial Co., Ltd. (CT Yunnan) is the largest tobacco manufacturing enterprise in China. Today, CT Yunnan has HongyunHonghe Tobacco Group (Hongyun) and Hongta Tobacco Group (Hongta) under its wing.

The Hongyun group comprises a total of six cigarette factories, four in Yunnan (Kunming, Honghe, Qujing, and Huize) and one each in Xinjiang Uigur and Inner Mongolia (Ulanhot). In 2014, Hongyun saw its total assets grow to a total of RMB78 billion (US$12.4 billion), producing 264 billion cigarettes, and generating RMB65.4 billion in taxes and profits. Last year, the group ranked 155th among the top 500 enterprises in China, with the sales of its popular Yunyan brand reaching 188 billion, and with its wholesale value reached US$17 billion.

The Hongta group has four cigarette factories all in Yunnan Provice (Yuxi, Chuxiong, Dali, and Zhaotong). Hongta’s business diversification involves 69 enterprises in the fields of finance, energy, transportation, light industry, chemical industry materials, hotel operation, real estate management, etc. Hongta saw sales of its brands reach a high of 278.02 billion, up 1.63% year-on-year, with sales growing rapidly. In particular, Yuxi reached 72.695 billion cigarettes in 2013, up 10.8 billion, or 17.45%, year-on-year. Yuxi maintained its status as the second largest Grade-One brand in China in 2013. The sales of Hongtashan reached a high of 149.13 billion also placing it among the top-level brands that year.

In 2014, CT Yunnan actively promoted reorganization and integration of its overseas production and marketing platforms, and kept strengthening and regulating management over its production enterprises .CT Yunnan currently has one overseas marketing platform, three overseas production operations based on share holding, and five overseas joint-venture operations for processing under license.

Shanghai Tobacco Group and CT Yunnan are the two most powerful groups in China’s tobacco industry, but provincial based enterprises have emerged in recent years, including China Tobacco Hunan Industrial (CT Hunan), China Tobacco Guangdong Industrial (CT Guangdong), China Tobacco Zhejiang Industrial (CT Zhejiang) China Tobacco Hubei Industrial (CT Hubei), and China Tobacco Jiangsu Industrial (CT Jiangsu).

CT Hunan is a backbone enterprise of the tobacco industry, ranking among the top three enterprises in scale, assets, and tax and profit generation. It has six cigarette factories of which four are in Hunan (Changsha, Changde, Chenzhou, and Lingling) and there’s one in Jilin Province (Siping) and one in Hingsix Hug (Wuzhong). Major cigarette products of CT Hunan are such big competitive brands of Chinese-style cigarettes as Hetianxia, Furongwang, and Baisha. In particular, Hetianxia ranks the first among the high-priced cigarette products in terms of both the annual output and sales. Furongwang has been consistently in first place among all Grade One cigarette products for 8 consecutive years, with the annual sales over RMB100 billion. Baisha is one of the largest CT Hunan brands.

CT Hunan actively explores new ways of manufacturing high-end cigarettes including customized production, and investing into r&d of new-type tobacco products as it strives to meet demand for the supply of both individualized and diversified products.

CT Guangdong has four cigarette factories all in Guangdong provice (Guangzhou, Shaoguan, Meizhou, and Zhanjiang), with total assets in excess of US$1.59 billion. In 2014, the sales of the company’s leading brand Double Happiness reached over 150 billion, generating RMB25.1 billion in annual taxes and profits. Created in 1906, Double Happiness is also one of the few cigarette brands in China that are over 100 years old. From the time of its creation by Nanyang Brothers Tobacco Co. Ltd. to its incorporation into CT Guangdong, the annual output of Double Happiness averaged a mere 19.5 billion cigarettes. But in 2014, the annual output of Double Happiness topped 150 billion, and it quickly became the number one brand in terms of scale. In 2015, its annual output is expected to remain at 150 billion. Throughout its operations in Southeast Asia, CT Guangdong established the joint-venture in Cambodia in 1993, and Viniton Tobacco is one of the largest cigarette factories there with market share exceeding 40%. In 2012, Viniton Tobacco underwent relocation and a technological transformation, and by January 2014, the new factory went back into operation, with the single-shift annual production capacity reaching 7.5 billion.

CT Hubei’s predecessor was the Hankou subsidiary of Nanyang Brothers Tobacco Co. Ltd. in the early 20th century. In 2003, CT Hubei was incorporated from the former Wuhan Tobacco Group and the Three Gorges cigarette factory. Today, the CT Hubei’s scope of operation covers production and marketing of tobacco products, import of cigarette materials and tobacco machinery, export of cigarette products, etc. CT Hubei currently has six production facilities, all in Hubei Province (Wuhan, Xiangfan, Three Gorges, Hong’an, Guangshui, and Enshi). The leading competitive brands of CT Hubei are Yellow Crane Tower and Red Golden Dragon. In 2014, CT Hubei generated over RMB50 billion in taxes and profits from its operations within the province, a net increase of RMB10 billion year-on-year, showing the largest increase in annual taxes and profits among all tobacco groups in China last year. If earnings from the commercial sector and licensed use of its brands in other regions are also taken into account, the total amount of annual taxes and profits generated by CT Hubei topped RMB65 billion in annual taxes and profits in 2014. Also in 2014, the company saw its annual wholesale value reach RMB100.9 billion, becomeing first among all tobacco companies in China.

CT Zhejiang’s scope of operation mainly includes production and marketing of tobacco products, trading in cigarette materials, parts, and components of tobacco machinery, import of leaf tobacco and export of cigarette products, production and operations in connection with tobacco products manufacturing and marketing, as well as operations in business diversification and operations in assets. CT Zhejiang now has two cigarette factories both in Zhejiang Province (Hangzhou and Ningbo), with Liqun, The Great Red Eagle, and The Lion being as its three leading brands. While focusing its energy on developing domestic markets, CT Zhejiang also actively develops overseas markets, with its Modern brand, now exported to more than 20 countries around the world including the Middle East, South America, and Indonesia.

In 2014, CT Zhejiang strengthened its efforts to develop international markets and extend operations in various parts of the world, fulfilling the target of exporting 8 billion cigarettes including 1 billion of the Liqun brand, in international markets for the 2011-2015 five-year period one year ahead of schedule.

Presently, CT Jiangsu has three cigarette production facilities in Nanjing, Xuzhou, and Huaiyin, and two wholly-owned subsidiaries (Nantong Cigarette Filter Tip Co. and Jiangsu Xinyuan Tobacco Sheets Co.), all in Jiangsu Province. The company is a tobacco manufacturing enterprise group that integrates the businesses of cigarette production and marketing. In 2014, CT Jiangsu produced 103.75 billion cigarettes through exclusive operations and 18.55 billion in joint-ventures, with the sales of its competitive Suyan and Nanjing brands reaching 32.705 billion and 84.585 billion respectively. The same year, both brands continued to maintain their rankings among the top 15 brands in wholesale value. CT Jiangsu is also one of the small number of existing slim cigarette producers in China, with its slim products taking a leading status in production scale, varieties, pricing, standards, etc. In 2014, the company generated a total of RMB45.975 billion in taxes and profits, with profits alone reaching a record RMB9.23 billion.

Based in different parts of China, the 17 manufacturing enterprises and the 33 commercial enterprises are stepping up their efforts in each other’s regions to grab market share in new local markets while maintaining supply of tobacco products to their local regions. Under the state monopoly system, both the production and marketing of tobacco products in China are limited. However, tobacco products are considered a type of commodity. Whenever tobacco products enter the marketplace, they are sure to meet with stiff competition. Such competition among the best brands and products will lead to some becoming more and more powerful, while others naturally falling by the wayside. Throughout this process, tobacco products, as a special type of commodity, will stand the test of markets. It is possible that a day will come when cigarette sales in China become more open and more direct, and that will be a time of true marketization of the tobacco trade in the People’s Republic, with cigarette products regaining to their previous status as a general commodity. But in the meantime, they are still considered a special type of commodity and that is not about to change.