Not many people have heard of 22nd Century Group (XXII, Financial), a biotechnology company focused on technology that allows it to increase or decrease the level of nicotine and other nicotinic alkaloids in tobacco plants through genetic engineering.
The absence of coverage for this company could perhaps be one of the reasons why the stock has fared so poorly on a year-to-date basis in spite of making plenty of headway in its operations.
As such, a brief overview of 22nd Century Group is warranted in order to get investors not familiar with the company up to speed.
The company’s primary mission is the reduction of harm caused by smoking as well as the development of smoking cessation products from the modification of nicotine content in tobacco plants. It exclusively controls more than 200 patents and has 50 more that are pending in countries around the globe. Since last year the company has been in the process of transitioning from researching and developing its proprietary technology and tobaccos to commercializing both the technology and the products.
The company’s current revenue is derived from the licensing and sale of its proprietary tobacco, sale of its brand cigarettes (Red Sun andMagic) and manufacture of filtered cigar and cigarette brands of third parties. Both Red Sun and Magic are super-premium cigarette brands sold in the U.S and E.U. markets and are available in regular or menthol. Additionally, the company has two more types of cigarettes that are currently under development which it refers to as Brand A and Brand B as well as a smoking cessation aid X-22.
Among the factors that make this company unique is the fact that it is the only one capable of growing tobacco with 95% less nicotine content as compared to conventional plants as well as the fact that no other company can grow tobacco with nicotine content that is as high as its proprietary plants. This ultimately puts 22nd Century Group on the fast track to becoming the first company in the word to achieve Modified Risk Tobacco Product (MRTP) designation, should an application to the FDA receive approval.
Moreover, the company is currently conducting a Phase III study sponsored by the University of Pittsburgh in collaboration with the National Institute of Drug Abuse (NIDA) to determine if its Spectrum research cigarettes, which have a low nicotine content, can be a viable means of helping smokers lose their addiction to nicotine. So why should investors take a serious look at this company?
The outlook on tobacco is brightening
First off, if you are looking for a reason to invest in 22nd Century Group, you need look no further than USA Mutuals' Barrier Fund (VICEX), which only invests in sin stocks. Over the past 10 years VICEX has risen 8.43% outperforming the Standard & Poor's 500 which has risen 8%. Within that cluster, tobacco companies have gained 16% in the past six months alone even as the number of smokers in the U.S. has been on a steady decline.
(Source: CDC)
According to a Centers for Disease Control and Prevention (CDC) report released last year, fewer than 15% of adults smoke, down from 18% in 2013. However, Big Tobacco such as Altria Group (MO, Financial), which only targets U.S. smokers, and Philip Morris International (PM, Financial), which concentrates on markets outside the U.S., have been immune to the effects of the declining number of smokers as their stocks have continued to surge. Altria and Philip Morris stocks are up 18.6% and 17.3% over the past year.
Fortunately, these companies have been able to counteract the effect of falling cigarette shipments by increasing the prices of their products, which seems to be working quite well. For instance Philip Morris shipped about 130.5 billion cigarettes back in 2013 with net revenue for that period coming in at $23.6 billion compared to 127.3 billion cigarettes shipped in 2015 with net revenues coming in at $24.67 billion. Improved consumer spending as a result of cheaper gas prices has also been instrumental in canceling out the effects of weakening cigarette demand.
In order to visualize the effect that cheaper gas prices have had on this industry, think of it this way. Consumers who normally buy cigarettes as they fill up their cars now have a little more money to spend on their nicotine habit, and this trend is likely to continue as long as gas prices remain at current levels.
Of course, there is also an argument posed by a number of pundits that ecigarettes will contribute to the decline in the traditional tobacco industry. The truth of the matter is that ecigarettes currently pose a minor threat to Big Tobacco going by British American Tobacco’s (BTI, Financial) recent industry report. British American Tobacco pegs the global tobacco market at approximately $656.7 billion to $729.7 billion compared to $6.5 billion for ecigarettes. Although these cigarettes definitely have their appeal, being that they don’t smell as much and have lower health risks, their cost of production is significantly higher than ordinary cigarettes. This means that, if there is a large industry shift toward these products, margins previously enjoyed by these firms will shrink.
For those still not convinced about the prospects of investing in tobacco firms, the FTSE All World Tobacco index that tracks the performance of the biggest cigarette companies globally returned 988% since 2000, outperforming the FTSE All World index, which returned about 131%.
It is the prospect of such returns that has even had a number of pension fund schemes reconsidering their decisions to divest from tobacco. As a matter of fact, the U.S.'s largest public pension scheme Calpers, which controls approximately $290 billion, commissioned research to investigate how much money it had lost as a result of blacklisting tobacco companies back in 2013. Wilshire Associates, which conducted the research, found out that Calpers essentially lost out on $3 billion in potential returns, clearly indicating the massive potential for investors.
22nd Century Group financials
While the future may be bright for the tobacco industry as a whole, it is also important to evaluate 22nd Century Group’s financial position to determine how well prepared the company is to take advantage of this opportunity. According to the company’s fiscal year 2015 annual filings, net revenue stood at $8.5 million compared to just $530,000 for the prior year making this the highest ever recorded annual revenue for the company.
However, even with this robust growth in revenue, the company still had losses to the tune of $11.03 million or 16 cents per share on those sales. In regard to the losses, management has explained that it isn’t actually selling the products at a loss; rather it’s because of the underutilization of the company’s manufacturing capacity. 22nd Century Group acquired a 60,000-square foot manufacturing facility back in 2013, and the losses generated are due to the operation costs of the entire facility such as rent, utilities and employee-related costs.
The company currently has about $3.76 million in cash and in February it raised an additional $5.14 million from a direct offering which, when coupled with a potential $7 million milestone payment from British American Tobacco, will be enough to sustain operations until about October. The company’s management has also managed to reduce debt from about $1.1 million in 2014 to $616,520. Total current assets stand at about $7.2 million while current liabilities are $3.2 million which gives the company a relatively solid financial position.
Conclusion
Overall, the tobacco industry is set to continue growing in spite of looming increased regulation. Introduction of graphic health warnings on packs and tougher restrictions on smoking in enclosed public spaces may play to the strengths of 22nd Century Group especially when its MRTP application is approved. At current levels of about 86 cents per share it definitely makes sense for investors to look at this stock more closely.
Author's note: I have not been compensated by any person in any way for preparing and publishing this report on this website. However, readers of this report as published herein should be aware that I have been and may continue to be compensated for preparation of the same or similar report concerning the same issuer for other websites or publications.”‹
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