Thursday, February 21, 2008

Can Brazil sustain its integrated system?

While cigarette smuggling primarily affects cigarette manufacturers, Brazilian leaf dealers are facing an entirely different set of challenges.

The U.S. dollar—the currency in which they are paid for their exports—has lost some 20 percent of its value against the Brazilian real in recent years, while the cost of production has gone up.

The exchange rate makes it difficult for exporters to pass on these expenses to their customers.

Leaf merchants say there's little room to reduce their cost of operation. Consolidation and rationalization initiatives in recent years have made them as lean as they can possibly be.

Some dealers also expressed concern about the future of Brazil's integrated tobacco production system, in which the buyers supply farmers with inputs and agronomic assistance and recover these expenses when the tobacco is delivered.

"Pinhookers" are damaging the system by buying tobacco from farmers who have been sponsored by other companies.

If trust in the system isn't restored, they say, Brazilian volumes could start to decline and buyers will lose control over the cleanliness of their tobacco.

Some suggest the dealer's plight could trigger vertical integration, with one of the major manufacturers—or even the increasingly assertive Chinese tobacco industry—purchasing a leaf merchant to secure its supply.

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