IP & The Tobacco Industry’s Second Life

I wanted to illustrate how intellectual property truly defines the current and future game lines of many industries and further how intellectual property strategy is now one of the key drivers behind corporate success or failure. The tobacco industry has been on the brink of extinction for a number of years, yet one major intellectual property transaction is the key to the industry’s profitable pivot.

With a product with proven negative health effects, the tobacco industry has been increasingly pushed into a tricky corner. Further development of the cigarette market in both developed and developing nations would undoubtedly bring forth a slew of class action law suits, marking a crisis point for the industry. Either commit to traditional tobacco cigarettes and commit to the inevitable death of the industry, or pivot into something more socially and public policy-wise acceptable and therefore sustainable.

The invention of a viable electronic cigarette by Hok Lin in the early 2000’s has facilitated a massive shift in the industry by the small and larger players alike. The genius of Hok Lin’s product was that it appears to create none of the health issues associated with conventional cigarettes yet still contains the highly addictive component of tobacco – nicotine. This concept, which was quickly protected by a number of broad patents around the world, has facilitated a rapid re-invention of the centuries old tobacco industry with earnings going from zero in 2005 to a predicted $10 billion annually by 2017, with a massive 90% margin.

At the core of this re-invention is intellectual property, enabling an effective switch from a dying product (the traditional tobacco cigarette), to a more sustainable e-cigarette product while retaining the nicotine required for high addiction rates and therefore perpetuating high sales. This pivot is about intellectual property in three ways:

·        the occurrence of a major intellectual property transaction,

·        which has in turn transformed the business model applied in the industry,

·        which will be leaving a series of intellectual property cast-offs in the increasingly redundant ancillary businesses associated with the traditional tobacco industry.

While a number of industry players already have their own e-cigarette offering, including Altria’s MarkTen and British American Tobacco’s Vype, what has been repeatedly deemed the original design of this product, is now owned by Imperial Tobacco. Upon acquisition of Dragonite International (Hok Lin’s Hong Kong-based firm which owned all the patents to his e-cigarette technology) for $75 million in November 2013, Imperial became the proud new owner of the original e-cigarette intellectual property package – an intellectual property transaction with major implications for the industry moving forward.

In the past, the large tobacco players have effectively been marketing and branding firms. They took a product with proven negative health effects and made it glamorous. They were very good at what they did. The business model we are likely to see in the industry going forward will be different. The industry is migrating from an even playing field where success was directly related to marketing and branding prowess for all players, to one where there is currently a dominant ‘technology enabler’ in Imperial who holds title to core technology-based intellectual property.

In a fashion not dissimilar to Qualcomm, Imperial is positioned to reap revenue in the form of royalties. The remaining players are now free to use their decades old marketing expertise to build new brand based intellectual property free of the fetters of traditional tobacco advertising restrictions. This assumes of course that the broad nature of Hok Lin patents hold and enable Imperial to protect its technology rights? With so much at stake there will be pressure to create or source alternative e-cigarette intellectual property.

Given this transformation, what now happens to the redundant ancillary businesses? The tobacco farmers and the paper makers? The big players are moving on, yet the survival of their cast-offs remains to be seen. These smaller players have their own intellectual property and it is clear that with strategic management of their intellectual property assets smaller players may also come back from death’s door.

So why do we care about Imperial’s acquisition of Dragonite and the associated e-cigarette intellectual property package? Dragonite was already in the process of litigating a number of international firms for breach of the intellectual property rights but Dragonite was relatively small and under-resourced.

What changed with the Imperial acquisition is Imperial has had the muscle to enforce the intellectual property more broadly and effectively. In effect the transaction has meant the perpetuation, or perhaps recovery, of big player domination of the cigarette industry and has initiated a rapid series of acquisitions of smaller players in the e-cigarette market. The big players, with well characterised brands and distribution pathways are now set to rebuild the ‘tobacco’ (or should we call it nicotine) industry’s second life.

I have talked about how even in an industry which is dying, intellectual property is integral. The lesson which we all understand is this: intellectual property is relevant in all industries, all the time.

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