CVS to Tobacco – It’s You, Not Me


CVS has announced that it will cease to sell tobacco products in its stores by October 1st, believing that the sale of tobacco products is inconsistent with the company’s role as a healthcare provider.

  • CEO Larry Merlo noted “We’ve come to the conclusion that cigarettes have no place in a setting where health care is being delivered.”

In unrelated news, sales of products in the following categories are apparently consistent with being a healthcare provider and continue to have a place in a healthcare setting:

We have no great love for cigarettes, but we stop short of applauding CVS for its bravery, as we note the following facts that likely contributed to the company’s decision:

  • Cigarettes are a declining category and while drug stores as a channel have gained share, the overall category trends remain negative, making the category less relevant over time.
  • Margins on cigarette sales have declined steadily since 2002 based on the data that we have seen (admittedly more skewed to the convenience channel) – some estimates have the gross margin on cigarette sales declining from mid-20% to low teens %.
  • The company was able to (planned to?) make this decision while preserving EPS guidance and growth rates provided back in December.

The impact to the top line was mentioned as $2 billion (including $500 million of sales linked to tobacco sales), for an EPS impact of $0.06 to $0.09 that the company suggested would be offset by other initiatives.  Again, we doubt that this decision comes as a surprise relative to the company’s guidance.

  • WAG could potentially see some small benefit, recognizing that the sale of cigarettes provides some marginal utility to 20% of pharmacy shoppers, but we wouldn’t invest on that basis.
  • We can also make the case for some marginal benefit to accrue to dollar stores, to the extent that some cigarettes purchases gravitate toward that channel.
  • We have mentioned in the recent past that MO is getting interesting to us based on its defensive properties and outsized yield (5.5%), and any weakness based on this non-news would make for a good entry point.

We see this as a non-event for the tobacco manufacturers – the sales will almost certainly be taken up by other distribution channels.

We also note that the corporate decision is not unprecedented, as TGT made a similar decision back in 1996, in that case citing concerns over declining levels of profitability associated with incremental sales regulations.

From the perspective of other consumer packaged goods companies, this puts some very valuable real estate (immediately behind the register) up for grabs in 7,600 retail locations.  Our suspicion is that some of the shelf space will be allocated to the already closely positioned smoking cessation products, which would be consistent with CVS’ announced efforts to expand that category.

No doubt, CVS hopes to benefit from some collateral goodwill from what amounts to a business decision.  If this was done solely on the basis of morality, we ask what has changed now versus say the last 20 years?  What has changed is the company’s overall business direction, which is now more oriented toward healthcare service provider rather than retailer.

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