1.How would you describe Marlboro’s competitive position in early 1993?
Marlboro, the leading cigarette brand for Philip Morris, was the dominant player in the premium priced market. While RJR was the second largest player in the market, RJR’s cigarette brands were fragmented. At the end of 1992, Marlboro had 24.4% unit market share, while each of the RJR brand cigarettes had less than 7% market share. Philip Morris, at 53% operating contribution margin, was significantly more profitable than RJR, at 34% operating contribution margin.
Marlboro was essentially backed by the biggest, most profitable player – Philip Morris. Philip Morris was also the consistent market share leader, at least since 1988, over RJR and other much smaller companies. The industry had sustained profitability over time. There we can conclude that there are significant barriers to entry in the cigarette market. Additionally, the need for a strong distribution network with retailers and wholesalers added to the barriers to entry into the market.
Threat
Discussed on more detail later, Marlboro was facing stuff competition in the 90s from discount brands, particularly RJR brands. While Marlboro, a premium brand, suffered a steadily declining market share since 1989, discount brands were quickly gaining market share.
2.What is Marlboro’s marketing strategy at this time?
Marlboro positioned itself as a premium brand cigarette. While it played in the discount segment as well, it was second to RJR brands in the discount segment. Marlboro spent a significant amount of money in advertising and promotions to command its premium pricing. Marlboro became synonymous with Iconic imagery such as the “Marlboro man” and wild western country images. This led to Marlboro’s strong hold amongst young men. Marlboro outspent its competitors in advertising – spending $3.5 million per percent market share in 1992, compared to $2.1 million spend per percent market share by RJR. (RJR was focused on the discount segment by 1992)
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Marlboro also used its market power to engage in “Trade loading”, essentially forcing retailers to forward buy and to stock up on Marlboros just before a price increase. This probably encouraged retailers to allocate more shelf space to Marlboro to get their inventories moving from their warehouses.
3.How does this compare to R.J. Reynolds?
RJR focused on its discount brand. RJR had built it self to the discount segment market share leader with 33% discount segment share by 1992. RJR carried about 200 brands under its umbrella. While they had national brands, they also created individual brands for each retailer, resulting in a string distribution system. This was probably well received by the retailers since a cigarette was one of the most profitable products sold in stores. RJR not only cut price to increase discount market share, but also invested in price promotions. Their growth in the 90s had come by taking market share from premium brands during a recessionary period.
4.What accounts for Philip Morris’ dramatic shift in strategy in April 1993? What are its goals? 6. What kind of industry future does Philip Morris anticipate?
Market shift (Consumer behavior and regulation)
The 1990’s was a recessionary period in the US. While cigarette smokers were believed to be loyal to their brands (and are generally very sticky consumers), there was a marked shift in the emergence of discount brands. In a span of 11 years (1981- 1992), the market share for discount brands in the US went from 0 to 30%. Meanwhile, Marlboro was steadily loosing market share, loosing 2 market share percentage points from 1989 to 1992.
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Additionally, the regulatory climate was putting an upward pressure on price. While government taxes were on the rise, restrictions on advertising of cigarettes were emerging, both of which made selling cigarettes more expensive. It can be argued that with the rising awareness amongst consumer on the hazards of smoking this upward pressure on price from a regulatory perspective would persist in the medium term.
RJR
Phillp Morris was also presumably worried about the aggressive price cuts and promotions by RJR to increase its market share.
Goals of Philip Morris Strategy
Philip Morris needed a aggressive competitive response to tacklethe threats of: declining market share, increasing share of discount brands, regulation, and RJR’s promotions and price cuts. They decided to aggressively attack the existing discount brands and make the Philip Morris brand significantly more price competitive.
Philip Morris effectively cut price by 20%, creating 2 tiers of cigarette pricing (from 3 tiers before).
Their premium products were now significantly more competitive, compared with the discount brands due to their reduced price and existing strong brand image. Philip Morris were betting that a large portion of consumers would compare their premium product as price competitive with the discount brands, and would chose Marlboro due to its superior brand image and comparable prices. They essentially wanted to win the pricing game and lead with their brand. Surprisingly, they slightly increased the price of their discount brand by a mere 6 cents. This was probably to restrict the range in which the pricing war could be played by other players.
Industry Outlook for Philip Morris
Surely with the consumer behavior shift and the increasingly hostile regulatory climate described above, Philip Morris views the industry margins becoming thinner and realizes it will get progressively harder to get new consumers. Therefore attracting heavy smokers becomes key for growth and long term profitability. Additionally, Marlboro views the market as price sensitive, especially for heavy smokers. Attracting and retaining this segment is not only a branding game but also a pricing game as well since there is a high frequency of repeat purchases.
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5.How should R.J. Reynolds respond?
In my opinion, RJR needs to “make good” (option 3 below) with Philip Morris. The three options for RJR are:
Fight with a further price cut or increase in advertising: not only will this option further erode industry margins, but also RJR will probably get crushed in a price/advertising war against the much larger and more efficient Philip Morris.
Do nothing: and risk loss of its discount market share dominance to Philip Morris.
Price increase (“make good”): Philip Morris is clearly signaling that it will play aggressively in the discount segment, and in the war for consumers moving or likely to move to the discount segment. With a slight price increase, RJR can signal to Philip Morris that it does not want to engage in a further price war, and it will maintain industry profitability. Such collaborative behavior is probably best for both players in the industry. Additionally, since RJR has a strong distribution with personalized brands for retail outlets, it should focus on building its capability in such brands. The localized brands are arguably a slightly different turf than only fighting the game as big national brands (where Marlboro is very strong with its dominant brand imagery), and local retail branding is RJRs stronghold.
