Price discounting -- the lowering of price to initiate or retaliate to competition -- can be triggered by a number of factors. Competing in a declining market and facing restrictions on advertising make price a crucial component of the marketing mix. Both of these factors apply to the tobacco manufacturing industry. Further, as noted above, the tobacco industry is increasingly reliant on price sensitive groups -- people on lower incomes, who form the majority of the tobacco industry's consumer base, and young people, on whom the industry depends for long term survival. Research from the Victorian Office of Prices has suggested that during the 1980s, tobacco companies used the profits from premium brands to subsidise their discount brands.(63) See Chapter 7, Section 4 for discussion.
In the early 1990s Australian companies saw profits decline due to their intense competition at the discount end of the market, exacerbated by the economic recession, which had made price an even more important consideration for smokers. In mid-1991 aggressive discounting began when Wills launched Horizon 50s, to compete directly against Rothmans' Holiday 50s and Philip Morris Longbeach 40s, at a lower per stick cost than their competitors. All three companies reported substantial financial losses during the period of the price war, and it was the general view that the discounting was unsustainable in the long term and that margins would creep up once more, although probably not to their previous high levels.(55) It was also predicted that a constantly discounting market would not be able to sustain three tobacco companies, and that rationalisation would have to occur.(91) The discount war subsided during 1992, but re-emerged with unprecedented viciousness in mid-1994.
In July 1994 Wills launched Horizon 30s in Victoria, in direct competition with Philip Morris' Peter Jackson. Wills priced their new packs at 52 cents less than Peter Jackson. Philip Morris retaliated by discounting prices in South Australia, Wills' stronghold.(9) At its height, the discounting war was costing the tobacco companies an estimated $8 million per week,(9) and in some parts of the country, certain brands were selling for under $10.00 per carton of 200 cigarettes, which is less than the duty-free price. In response, predicted profitability and share prices of the companies dropped.(92)
The Prices Surveillance Authority (PSA) views the cigarette companies' discount wars with some scepticism. In its 1994 report, it noted that the companies have for the most part priced their cigarettes at or slightly below PSA reviewed prices. Where discounting has occurred, it has generally signalled a new market entrant and has been limited to a narrow product range -- no company has discounted its entire range. Moreover, where companies have increased the frequency or depth of support for retail promotions, the cost of this activity has been built into the overall price structure.(10) The PSA has also reported that 'over the past five years the companies combined have increased weighted average prices before taxes by more than the general rate of inflation', and that 'it appears that firms recognise their mutual interest in avoiding price reductions which are likely to provoke strong retaliatory responses from well-funded competitors'.
While price discounting in Australia has been confined to the larger size value packs, in the United States (where large packs are not manufactured), competition from low price brands has become so fierce that even premium brands such as Marlboro and Winston have been discounted in an effort to protect their market share.(93) Tobacco companies in the US now appear to be engaged in price discounting brinksmanship, lowering and raising prices in an effort to manipulate brand share.(51) However there is evidence that as top priced cigarettes have come down in price, bottom price tiers have edged up. If the market stabilises, it is expected that the gap between the two major price brackets will close further.(93)