Philippe Boucher's Rendez-vous with . . . Raymond Jones

Rendez-vous with . . . Raymond Jones

Author of Strategic Management in a Hostile Environment: Lessons From the Tobacco Industry
Associate Professor of management, Sellinger School of Business, Loyola College
Baltimore, Maryland, USA

By Philippe Boucher

Rendez-vous 96

Saturday, April 14 , 2001

PB : Thank you Raymond for accepting our rendez-vous.
May I ask you to introduce yourself?

Raymond Jones : I earned a Ph.D. degree from the University of Maryland, a J.D. from the University of Texas, an MBA from Harvard and a B.S. from the United States Military Academy. Prior to academic life I was an executive with Occidental Petroleum. International strategy has been the focus of my teaching and research interests. Quorum published Strategic Management in a Hostile Environment: Lessons From the Tobacco Industry in the late 1997.

Q1. I'll start by the end! I was very surprised when reading your conclusion (p.146) written in 97. You quote a very interesting excerpt from the 92 surgeon general report (Antonia Novello) that basically states the case against capitalism (although the word is not used it is market-oriented) as far as tobacco is concerned. David Kessler reaches the same conclusion in his recent book and wishes for a dismantling of the industry. You write : ownership by a quasi-government Koop-Kessler group would not be such a conceptual leap as one might first imagine, once one considers the historic tax situation along with a prospective reduction in transaction costs due to a common ownership.

Can you explain how concretely such an hypothesis could happen? although in a Bush administration context it seems highly improbable it could be of interest for other countries or for the longer term...

R J : The government plays a financial and regulating role vis- a- vis the tobacco industry. Total taxation (direct and indirect) varies from 50 to 70% depending on what country is being considered. Additionally the U.S. states' settlement places the states in a possible perverse position of desiring the cigarette firms' continuation until the end of the 25-year settlement. The government has and will continue to have a financial interest in the cigarette firms' futures.

Conversely the government has an obvious public health role. Yet a complete tobacco ban is not possible because of the "prohibition effect." Various government entities must thus be involved in the regulation of advertising, promotions, ingredients, legal age for purchase, legal place of purchase etc.

The cost of regulations and enforcement is not trivial. Economically speaking the government is said to exhibit now-trivial transaction (supervisory and controlling) costs. The costs go even higher when one also considers the costs of the numerous NGOs and NPOs involved in the anti-tobacco efforts. The overall global regulatory costs are increasing. Combining the taxation and regulatory efforts in a leveraged buy out (LBO) of the industry's firms would reduce the overall costs, directly finance the anti-smoking effort, and enhance the effectiveness of the anti-smoking movement. The late 1980's LBO of RJR Nabisco concretely demonstrates that a LBO is feasible. Utilizing the pro bono work of lawyers and investment bankers a Koop-Kessler group could LBO the U.S. industry. Five or six similar efforts worldwide would effectively change total industry ownership. Funds formally devoted to marketing and other expansionary efforts would now be utilized by the new ownership to pay off LBO debt and negatively advertise their products. As the market dwindled so could the supply, yet "prohibition effects" would be avoided. An industry LBO is feasible, cost efficient, and effective vis- a- vis the public's health.

Q2. Back to earth! "more likely is the probability that the tobacco accord will be legislated into existence in some revised version". The industry settled with the attorney generals but there is still a lot of uncertainty about the type of new regulation Congress could eventually come up with. How do you assess the post-settlement strategy of the industry as far as a new legislative/regulatory frame is concerned?

R J : The new regulatory framework will not be found solely or even principally in the United States.

I believe, and the industry's websites confirm, that the future battleground for cigarette regulation is to be found at the World Health Organization (WHO). The proposed WHO treaty with the protocols utilized under its "framework convention approach" is where " the sounds of the guns" are going to be.

Q3. After years of denial the industry and especially Philip Morris, is trying to convince the public it is born again. Can the huge corporate image campaign touting the good deeds of the Philip Morris Family of companies work? while there is at the same time an aggressive Virginia Slims campaign? can the boycott launched against non-tobacco entities of the Philip Morris group work as seems to indicate a recent Harris Poll?

R J : The literature on both domestic and international boycotts strongly suggests that they are not generally successful. With respect to this particular boycott the ubiquitous nature of the tobacco industry's food products operations could inhibit consumers from finding substitute products. The success or failure of such a boycott would directly impinge on a theoretical construct in the field of economic business studies. The issue is corporate legitimacy.

Corporate legitimacy is not a legal concept but rather a sociological concept of institutional congruency within a society. It is held to be at the core of a firm's social responsibility and to be essential to a firm's survival. However, the tobacco firms are not only surviving but prospering, all the while, claiming that they are selling a legal product.

Corporate legitimacy may be a valid concept generally and perhaps it is only a matter of time before its force is felt (analogous to the fall of the Communism over a long period of time because of its lack of internal legitimacy), or rather it is an artificial construct that carries no weight, i.e., as long as one follows the formal laws and rules of society nothing else can be demanded. If corporate legitimacy is a valid concept, there will eventually be a backlash against the food operations of these cigarette firms.

This corporate legitimacy issue can be tied to a firm's strategic management. Harvard's Kenneth Andrews would include legitimacy as an element of strategy (as well as the ethics of top management). Pointing this out allows us to see an integration of societal legitimacy, management's ethical views and strategic management. Alternatively, Friedman-like individuals will argue that profit maximization, as long as it is legal, is the whole of both strategy and corporate legitimacy. It should be pointed out, that strategy, essentially, is a maximization of a FIT (various aspects of firm's strategy should reinforce one another) concept for the whole firm rather than any one functional area (i.e., finance, marketing, production, etc.) of the firm. Does the same apply to society and its institutions?, i.e., a Friedman/Chicago approach can be said to maximize the economic function of society but not necessarily society as a whole; maximizing a function rather than the organization as a whole goes against the traditional grain of a business policy/strategic management approach.

A boycott would have obvious impact on the tobacco industry itself. It would likewise serve as an "R&D experiment" for the concept of corporate legitimacy. Current PR efforts of Philip Morris can be interpreted as evidence their top management believes in the concept of corporate legitimacy. They are attempting to avoid the stigma of being labeled a corporate social deviant not only by consumers but also by fellow corporations and other institutions.

Q4 . The tobacco industry in the US would be in a declining phase (after a growth and maturity phase). How does that translate in terms of profitability (they still look very profitable to me)? Another key argument about the future of the industry was based on kids : almost no one starts smoking after 18 so let us prevent kids to start and the industry disappears. It seems to me the industry can very well survive and thrive with people starting smoking after 18. The fact that college student's smoking is on the rise looks (to me) as a proof of the success of the industry's targeting of young adults and it's belief they can survive without kids smoking. Is an adult only market a viable perspective?

R J : This question raises the "adults only" issue. Does the passage of age diminish the lustre of forbidden fruit? The question is pregnant with numerous and sometimes conflicting theories. Issues such as education and income stratification, the rebellious nature of youth, their invincibility, their need to challenge societal norms and their ability to reason, varied definitions of addiction, etc. abound.

This question also raises economic propositions that are not so conflicting. When an industry matures and declines, firms diversify by market and by product. Firms, witnessing a decline in their U.S. and Western European markets, have expanded geographically to the Far East and Eastern Europe. This market diversification is buying time for the development of their product diversification. This product diversification is tobacco related. It focuses on the development of a "safer" cigarette, smokeless tobacco and/or any other possible safer tobacco product. This is the industry's holy grail for its long term future. I believe that absent the ability to make a credible claim that they have a safer product the industry will not survive as presently structures. I also believe that this search for the holy grail is the keystone of the industry's present long term strategy.

Q5. In the annex, you tell the story of smokeless tobacco with the incredible growth of UST. As I recall a recent public statement, the smokeless tobacco people seem more confident than ever that their business can grow. How do you see their situation today?

R J : Last week the leading smokeless tobacco company introduced a bourbon flavored product to its product array. It is part of the firms' accelerated new-product development program that has an increased focus on portion-pack and mild products. Such product development and other actions to be discussed below would appear to justify the industry's confidence in its future.

The tobacco industry and its Wall Street analysts believe that the current Philip Morris' PR efforts will result in a regulatory framework within which reduced health-risk claims can be made. This could result in the ability of smokeless tobacco manufacturers to make safer health-based claims in comparison to cigarettes. It is rumored on Wall Street that RJR will buy UST, the leading smokeless tobacco producer by the end of this year. Such action would give credence to the belief that claims for a safer product will be legally allowed in the future. All in all this is in an industry confident in its future.

PB: Thank you Raymond for taking the time to be with us today.

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