In 2015, the World Health Organization (WHO) published an Advisory Note titled Global Nicotine Reduction Strategy. It’s a 36-page report, put together for the purpose of presenting the conclusions and recommendations of the members of an WHO Study Group on Tobacco Product Regulation, called TobReg, on a policy for limiting the sale of cigarettes to brands with a nicotine content that is not sufficient to lead to the development and/or maintenance of addiction.
The justification behind such limitation is simple – if an individual is only able to gain access to (and in turn, consume) a cigarette that doesn’t contain enough nicotine to induce addiction, then overall consumption should decline. The Advisory Note details a number of takeaways, each of which are important considerations in getting a policy like that under discussion into practice. The primary conclusion, however, was as follows: that no specific amount of nicotine has yet been identified as the absolute threshold for addiction; however, it is likely to be equal to or possibly less than 0.4 mg/g of dry cigarette tobacco filler.
If such a policy came in to force, the tobacco industry would be turned on its head. This addiction threshold represents a 95% reduction in nicotine versus the conventional cigarette brands that are on the market today, meaning the leading brands, produced and sold by Big Tobacco and its constituent behemoths (Philip Morris International Inc. (NYSE:PM), British American Tobacco PLC (ADR) (NYSEMKT:BTI), etc.) would become obsolete under its recommendation.
When regulatory advance shakes up markets like this one has the potential to do, there are generally winners and losers, and in turn, opportunities to back the companies that fall within the former category.
In this instance, however, one company stands out as having the potential to gain more than any other if policy like the above discussed comes in to force. The company is 22nd Century Group Inc (NYSEMKT:XXII).
Right now, 22nd Century is the only company in the world capable of producing combustible tobacco cigarettes at this very low level of nicotine, without having to incorporate the inclusion of any artificial extraction or chemical processes into its manufacturing process. The company has developed a proprietary technology that allows it to regulate the level of nicotine present in tobacco plants without impacting the elements of the tobacco leaf that are responsible for characteristics like taste, aroma, that sort of thing. The technology is protected by more than 200 issued patents and more than 50 patent pending applications globally, and underpins a suite of tobacco products that make up 22nd Century’s commercial product portfolio.
How does it work?
The technology is rooted in regulation by genetic engineering of what’s called the nicotine biosynthetic pathway. By way of a simplified explanation of how it works, nicotine is produced in the roots of tobacco plants by the linking of compounds from what are called nicotinic acid and putrescine. By altering the genetic profile of the plant, the company is able to regulate this linking, and in turn, regulate the creation of what are called nicotinic alkaloids. Nicotine (the form found in commercial tobacco products) is an example of one of these alkaloids.
Anyway, understanding the science isn’t overly important from an investment perspective. What’s important is this process allows the company to basically dial the nicotine content of its plants up and down, at growth stage. Other companies need to use outside input to do this, post harvest; 22nd Century doesn’t.
So the WHO has recommended mandated reductions in nicotine to minimally addictive levels. Right now, there’s no option available to smokers in many global regions – the US included.
22nd Century is working to fill this gap in the market, and it’s the company’s efforts towards this aim that underpin a long term value thesis on the stock. There’s a large database of clinical investigation that underpins the suggestion that a very low nicotine product can lead to reduced cigarette consumption, and this has given 22nd Century plenty of ammunition to take to the FDA as supportive of getting a product developed using the above discussed technology to market with an FDA recommendation and approval.
Back in January 2017, the company announced that the FDA had provided positive feedback on the product it’s trying to bring to market to take advantage of the WHO mandate recommendations. 22nd Century currently refers to it only as Brand A, and on the back of the FDA feedback just noted, the company is working on a Modified Risk Tobacco Product (MRTP) application that – if approved – will allow 22nd Century to market the brand as reducing the smoker’s exposure to nicotine. Parallel to the MRTP, the company is also preparing a Pre Market Tobacco (PMT) application, the approval of which is necessary before it can start selling Brand A in the US. Prior to the January guidance, these two applications were combined. Post-guidance, 22nd Century has broken them into two separate applications, based on the potentially shorter turnaround time of the PMT as compared to the MRTP.
This means we could see the PMT granted near term, allowing the company to sell its Brand A in the US (although we don’t expect management will start doing so until the MRTP is granted, the PMT is a near term upside catalyst).
Policy change driven potential aside, this company is already selling branded tobacco products in the US, and generated more than $12 million in revenues from these products during 2016. This is up from the $8.5 million reported during 2015. Further, in management’s most recent letter to shareholders, CEO Henry Sicignano stated that already signed contracts amount to an increase in revenues for 2017 over the full year 2016 number.
With that said, however, the real long term value for this company (and in turn, its shareholders) is rooted in the regulatory side of the picture, and again referencing the recent CEO letter, its operational focus points towards recognition of this fact. Sicignano noted that a number of shareholders had expressed opinions that 22nd Century should cease all current sales efforts and focus on maximizing potential regulatory advance. He followed this up with the statement that company focus will be on regulatory efforts, and that this side of the expansion strategy could lead to the generating of hundreds of millions of dollars annually from Brand A and other products.
And it’s not all about tobacco.
22nd Century has taken the concept outlined above (genetic alteration of plants to impact adult plant composition) and applied it to cannabis plants. The goal? To reduce, or remove entirely, the THC component of the plant. For those not familiar with the cannabis space, THC is the psychoactive compound of the cannabis plant – the part that causes the mind altering effects on consumption. In the recreational consumption space, of course, THC is a desired ingredient. In other areas of the industry, however, the opposite is true.
Take hemp, for example. Right now, people don’t grow hemp on a commercial scale in the US. It’s possible, of course, and it’s legal. And it could be incredibly profitable. So why isn’t it happening? Because it’s risky. Hemp is defined by what’s called Section 7606 of the Agricultural Act, and to qualify as hemp (as opposed to marijuana) under this act, it’s got to contain 0.3% or less THC on a dry weight basis. Any more, and the government can legally force a farmer to destroy an entire crop of hemp, since it’s ‘legally’ classed as cannabis.
22nd Century’s answer to this situation was to develop a cannabis plant that contains 0% THC, effectively removing the risk from the equation for US farmers.
There’s a similar type of application in the medical marijuana space. Many of today’s medical marijuana drugs are rooted on CBD as opposed to THC. The ‘high’ associated with the THC is often regarded as an unwanted side effect. With its 0% THC yields, 22nd Century’s plants basically negate this problem at grow stage.
The cannabis side of the company is at the research stage right now, and it’s not going to be a primary value driver near term. That said, it has the potential to add considerable value as the hemp farming and cannabis industry matures in the US and internationally.
So what’s next?
It’s all about progress on the regulatory front. There are a number of ongoing studies investigating the impact of very low nicotine products on cigarette consumption, and as these complete, they should serve to reinforce 22nd Century’s application to the FDA for marketing authorization, and on a more macro scale, the justification for an industry wide mandate as outlined by the WHO document referenced in the introduction to this piece. These studies, in turn, serve as catalysts for near term growth as and when they hit press.
Additionally, information released by the company relating to program-specific regulatory developments in various regions (one of the most interesting of which is a UK program referenced in the most recent shareholder letter as well as the latest conference call) will offer clarity into potential penetration into the markets of said various regions.
The author holds no positions in the above mentioned companies.