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Reynolds American (US)

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Reynolds American is the clear #2 in the US tobacco market behind Philip Morris and the local leader in e-cigarettes. Brands include Camel, Pall Mall and Newport, and the company markets a growing selection of smoke-free products such as snus, snuff and Vuse e-cigarettes. The business was formed in the summer of 2004 from the merger of the former #2 RJ Reynolds, with third-ranked rival Brown & Williamson. The latter's previous owner, British American Tobacco, remained the group's biggest shareholder with a minority stake until 2017 when it acquired full control of the business. In 2015, Reynolds absorbed smaller rival Lorillard, adding menthol Newport and several other discount brands to its portfolio, but shedding Winston and Salem to secure regulatory approval. During the 1980s, RJ Reynolds was part of RJR Nabisco, a broad-based consumer products conglomerate which made history as the target of what was then the biggest ever takeover deal, worth $30bn. The debt incurred in the process led the group into a steady decline, and to survive it sold off Camel and Salem outside the US to Japan Tobacco.

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Contact

Reynolds American
401 North Main Street
Winston-Salem, NC 27102
United States
Tel: 1 336 741 5500

Brands & Activities

The 2004 merger of RJR and B&W preserved both companies' market position in a market which is in steady decline. The combined group now holds a much stronger #2 position, but remains entirely dependent on the US, where total volumes continue to decline slowly but steadily. For 2014, local market share was 26.5%, a little more than half Philip Morris USA's near-52%.

The continuing decline in the market prompted another merger in 2014, with smaller rival Lorillard. This finally completed in 2015 after a whole year of regulatory investigation. Reynolds paid approximately $27.4bn for the smaller company in cash and stock. At the same time, BAT invested an additional $4.7bn to maintain its 42% shareholding in the enlarged group. Combined market share post-Lorillard is around 34%.

Reynolds American is the umbrella for several separate operating units. The biggest of these is still known as RJ Reynolds Tobacco Company, but now incorporates both the former B&W business and also Lorillard. Although its portfolio is overshadowed by Philip Morris's Marlboro, Reynolds manages several of America's top ten best-selling cigarettes. Its most important product is Camel, the #3 cigarette brand in the US with 8.3% market share in 2015, and the main focus of all Reynolds' remaining marketing activity, primarily in direct mail. Sister brand Pall Mall, leader in the "savings" segment, had 7.8% share.

Until 2015, these were supported by three other full price brands: menthol cigarette Kool (1.8% share); Winston, now relaunched as an additive-free tobacco (2.4% share); and mentholated Salem (0.5%). However that trio were transferred to competitor Imperial Brands (formerly Imperial Tobacco) to ease regulatory concerns over the Lorillard merger. The group also surrendered Lorillard's Maverick brand and Blu eCig business. However, it gained Lorillard's lead brand, menthol cigarette Newport, now the #2 best-selling cigarette in the US after Philip Morris USA's Marlboro, with around 13.3% share.

Another savings brand, Doral, has 2.0%. The group also markets Eclipse, a no-smoke cigarette which could offer smokers a lower health risk. (It heats rather than burns tobacco).

The group's main brands account for around 80% of its business, and all have spun off a number of variants. Camel for example comes in more than 12 different formats including specialist blends. Its most unusual variant is Camel Crush, which gives smokers the option of changing each cigarette from regular to menthol by crushing a capsule in the filter. In addition the group has a portfolio of other brands including Lucky Strike, Misty, Capri, More, Vantage, Now, Century and various private label brands.

Total volumes for RJ Reynolds brands in 2014 were 61bn cigarettes, down by 5% on the year before and equivalent to 26.5% market share. Just over half of RJR's volumes related to full-price brands, and the rest to savings brands.

Outside the US, RJR Tobacco's core brands have been owned by Japan Tobacco since 1999, except in the UK where they were licensed to Gallaher Group, itself acquired by Japan Tobacco in 2007. In 2002 the group agreed a joint venture with Gallaher to market American blend cigarettes in France, Spain and Italy under the Benson & Hedges American brand, and subsequently bought back duty free rights on some RJR brands from Japan Tobacco, as well as rights to sell to the US military overseas. The Gallaher joint venture was terminated in 2007 following that company's acquisition by Japan Tobacco.

A separate unit, The Sante Fe Natural Tobacco Company, specialises in premium products, primarily the additive-free Natural American Spirit brand (1.9% share in 2015). The group transferred all rights outside the US to Japan Tobacco in 2015 for $5bn in cash. Reynolds also manages BAT's Dunhill and State Express 555 brands under license. In 2006, the group expanded its presence in the smokeless tobacco sector with a deal to acquire snuff and chewing tobacco manufacturer Conwood for $3.5bn. Now rebranded as American Snuff Company, it is the #2 in its market (behind Philip Morris-owned UST). Brands include premium-priced Kodiak, value-priced Grizzly, and a collection of supporting products including Taylor's Pride, Levi Garrett and Morgan's. Unlike cigarettes, moist snuff is still a growing sector. American Snuff had 34% share in 2014 to UST's 57%.

Another smoke-free product marketed by the group is snus, a form of smoke-free chewing tobacco originally developed in Scandinavia, and which does not require the user to spit. Reynolds introduced its first snus product in the US in 2006 as an extension to the Camel brand. As a result, Camel snus is now available nationally in the US, and is supported by Camel dissolvables, a form of milled tobacco stick or strip which dissolves completely in the mouth. Perhaps the group's most promising smokefree product is the Vuse digital vapor e-cigarette range.

Reynolds' only non-US business is Nicovonum, acquired in 2009. It markets nicotine replacement gums, mouth sprays and pouches in Sweden and Denmark under the Zonnic brand name.

Another unit, Lane Limited, was acquired by Reynolds American in 2004 from BAT for around $400m. It markets a range of specialty tobacco products in the US including roll-your-own tobaccos such as Bugler, Midnight Special, Kite; pipe tobacco including Captain Black and Raleigh; Winchester little cigars and Dunhill premium full-size cigars. It was sold on in 2011 to Scandinavian Tobacco Group for $200m.

Financials

Like tobacco volumes, Reynolds' net revenues (after excise) have also been in slow decline for several years, falling to a lowpoint of $8.24bn in 2013, their lowest level since the B&W merger. There was a modest recovery to $8.47bn for 2014. Net income has held up rather better, hitting a high of $1.72bn in 2013, before slipping back the following year to $1.47bn. Combined sales for 2015, including a part-year contribution from Lorillard are expected to top $10bn.

Despite years of litigation, only a handful of cases have reached a final settlement, and RJR and B&W are both covered by the Master Settlement Agreement agreed between Big Tobacco and 46 US States in 1998.

Management

Former Brown & Williamson CEO Susan Ivey stepped down as president & CEO of Reynolds American in 2011 and was replaced by Daniel Delen. She returned to the role in Spring 2014 under her new name of Susan Cameron. Thomas Wajnert is non-executive chairman.

Other senior officers include Andrew Gilchrist (EVP & CFO), Debra Crew (president, RJ Reynolds & chief commercial officer), Brice O'Brien (EVP, consumer marketing, RJ Reynolds), Robert Dunham (EVP, public affairs), and Michael Auger (EVP, trade marketing, RJ Reynolds). Mick Spach is president, American Snuff. Tommy Payne is president, Nicovonum. Mike Little is president, Santa Fe.

Background

Richard Joshua Reynolds was one of America's original tobacco pioneers. He founded the company which bore his name in 1875 in Winston, North Carolina to manufacture chewing tobacco, but sold a majority stake in 1899 to the enormous American Tobacco conglomerate being assembled by tycoon James Duke. In 1911, the US government forced the break-up of American Tobacco under anti-trust regulation, and RJ Reynolds was hived off as a separate business, along with Lorillard and Liggett & Meyers. Reynolds himself won back control of his company, and set about developing the business.

In the break-up of American Tobacco, Reynolds had been left without any specific cigarette brand, and its biggest-selling product was the pipe tobacco Prince Albert. In launching its first cigarette in 1913, partially blended from Turkish tobacco, Reynolds sought to exploit a growing public interest in the Orient, and named the product Camel. Despite its vaguely eastern origins this mix of tobacco became known as American Blend. It proved an enormous success, quickly establishing itself the country's best-selling cigarette for the next thirty years, until overtaken by American Tobacco's Lucky Strike. Camel's popularity was greatly enhanced by the urban legend that the pack design, featuring a camel set against an exotic background of pyramids and palm trees, contained a hidden drawing of a naked woman. (Later this story was hijacked, presumably by anti-smoking campaigners or rival manufacturers, and the legend changed to suggest that the naked figure was not a woman but a man in a state of arousal! See Snopes urban legends for more).

Another tobacco company also operated nearby in North Carolina. Two local families, the Browns and the Williamsons each owned tobacco factories in the state, and became linked through marriage. In 1893, brothers-in-law George Brown and Robert Williamson set up together as Brown & Williamson Tobacco Manufacturing, although the business remained a small regional operation until very much later. During the 1920s, Brown & Williamson acquired two other regional tobacco companies, once of which marketed the popular pipe tobacco Sir Walter Raleigh. In 1927, Brown & Williamson was itself acquired by British American Tobacco, marking the latter's first step into the US market. Raleigh was relaunched as a premium cigarette the following year. B&W was one of the first manufacturers to explore the idea of healthier cigarettes. It introduced the first mentholated product, Kool, in 1933, although the cigarette enjoyed little popularity until much later. The company also began experimenting with different sorts of filters, designed primarily to stop tobacco shreds from getting stuck to the teeth and lips. Viceroy was introduced in 1936 with a cork filter, changed to cellulose acetate in the early 1950s. Nevertheless most smokers regarded filters as unmanly, and sales remained modest.

As health concerns mounted in the 1950s, other tobacco companies began introducing filters on their cigarettes, responding to evidence that they also reduced the levels of tar and nicotine ingested by smokers. However the filter also tended to reduce the flavour of the tobacco. As a result, Reynolds began experimenting with ways to get around this problem. They found the solution with what was euphemistically called Reconstituted Sheet Tobacco (RST), made from all the stems, scraps and dust normally thrown away in the tobacco curing process. By packing the cigarette with a mixture of this material and finished tobacco leaf, the apparent flavour of the filtered cigarette was heightened. Reynolds launched its first filtered brand in 1954 under the name Winston, promising "Winston tastes good, like a cigarette should!". At the same time, mentholated cigarettes such as Brown & Williamson's Kool also experienced a rise in popularity because of the perception that they were healthier than traditional smokes. As a result, Reynolds entered this segment too with another new brand, Salem, the first mentholated and filtered cigarette, introduced in 1956.

By 1958, RJ Reynolds was America's leading tobacco manufacturer, a position it held for the next 25 years. The group slowly began to diversify into foods in the 1960s and 1970s. In 1985, the same year in which Philip Morris acquired General Foods, RJ Reynolds swallowed up America's leading biscuit company Nabisco for $4.9bn. Nabisco's CEO Ross Johnson took on the same role at the newly amalgamated RJR Nabisco, but he soon found the company's tobacco interests holding back its share price. In 1988, he attempted an ambitious buyout of the company, but was countered by a bid from financiers Kohlberg Kravis Roberts. KKR had formed in 1976, a partnership between Henry J Kravis, his cousin George Roberts and Jerome Kohlberg, their former boss at investment bank Bear Stearns. They invented the concept of the leveraged buyout, by which financiers bought companies by risking a small amount of their own capital backed by substantial borrowed funds.

The battle to acquire the company, memorably documented in the best-seller Barbarians at the Gate, was one of the defining moments in US corporate history and set the tone for the greed mentality of that decade. Kohlberg Kravis Roberts took the prize after a six-week battle, paying a grand total of $30bn, at that time America's biggest ever takeover deal. But most of the money was borrowed, leaving RJR Nabisco with a massive debt totalling $29bn. Although the deal was a stunning coup for KKR, it led to disagreements between the partners. Kohlberg left the firm but Kravis and Roberts stayed on, although they had difficulty extracting a profit from such a debt-ridden deal. They brought in former banker Lou Gerstner to run the business in 1991. He took the company public for the second time, but jumped ship to rescue IBM in 1993. KKR finally sold out in 1995, leaving RJR Nabisco with a substantial rump of debt.

Meanwhile, Brown & Williamson had also undergone a transformation, as a result of the acquisition of what remained of the old American Tobacco conglomerate. In 1994, BAT acquired that company's tobacco division, comprising the Carlton, Pall Mall, Misty, Tareyton and Lucky Strike brands, and merged it with Brown & Williamson. The resulting company took up the #3 position in the US market behind Philip Morris and RJ Reynolds. The latter had now come under considerable pressure from the increasingly powerful US anti-tobacco lobby. Coinciding with its buyout, Reynolds had updated the image of its lead cigarette brand, replacing the old literal camel with a "cool" new anthropomorphic cartoon character, Joe Camel, and backing the relaunch with an extensive ad campaign. As a result, Reynolds was repeatedly targeted by campaigners who claimed that the updated Camel brand mascot encouraged children to smoke. It was eventually dropped in 1997.

At the same time, RJR was embroiled in protracted legal actions. In 1997, RJR and Philip Morris joined with other US cigarette makers to provide a $370bn settlement fund to end lawsuits brought by nearly 40 states in the US. In early 1998 this deal foundered after tougher than expected restrictions were added by Congress, leading to a potentially higher cost and the removal of legal immunity for tobacco manufacturers. After months of negotiation an agreement was finally reached in November 1998, providing $206bn in settlement funds, but with wider controls imposed on tobacco sponsorship and other marketing, and with restricted legal immunity for the cigarette companies. For a while it looked as if the dust had settled, but in January 1999, US President Clinton once again promised to make tobacco companies pay for tobacco-related medical costs, regardless of existing agreements.

Meanwhile, the Reynolds brands had lost ground in their home territory, and performed even worse in the international arena, hard hit by the general slowdown in the Far East and Russia. Sales dropped 5% in 1997, then by another 19% in the third quarter of 1998, while operating profits halved. The biggest underlying problem, however, was the huge cost of the $29bn debt mountain created by the KKR takeover. The IPO of RJR Nabisco in 1991, followed by the sale of a 20% stake in the Nabisco foods subsidiary in 1995 and the sell-off of its cereals division had whittled the debt down to $9.5bn by 1998. But that still generated an annual interest bill of around $665m. In addition, all the tobacco companies were already paying out huge sums each year to US states in costs and individual lawsuits. In 1998, RJR spent $457m, aside from any contribution to the long-term settlement fund. As a result, group made a loss of $577m.

Increasingly fractious shareholders began calling for a complete break-up of the crumbling empire before smoking-related lawsuits pushed the whole thing into bankruptcy. At the heart of these protests were corporate raiders Carl Icahn and Bennett LeBow, who owned around 8% of the company between them. LeBow was chairman of the Vector Group (known as the Brooke Group until 2000), which included the much smaller tobacco company Liggett Group, formerly Liggett & Myers, one of the four businesses split out from American Tobacco in 1911. RJR Nabisco CEO Steven Goldstone initially took the middle route, launching a three-way split of the company in 1999 in order to ease pressure of the food company.

The group's ailing international tobacco operations, including non-US rights to Camel, Winston and the other brands, were sold to state-owned Japan Tobacco for $8bn. (The UK's Gallaher Group picked up the British arm of the business in a subsequent deal with JT). At the same time RJ Reynolds was established as a separate company to operate the tobacco interests in the US. (Former parent company RJR Nabisco became simply Nabisco Group Holdings, the holding company for the controlling stake in the Nabisco foods business).

In 1999, RJ Reynolds spun off a majority stake in its subsidiary Targacept, a pharmaceutical research company. A year later, as part of a complex deal in which the Nabisco foods business was acquired by Kraft, RJ Reynolds bought back the Nabisco Group Holdings company shell, making a profit of $1.5bn in cash. Early in 2002 RJR bolstered its US portfolio by acquiring independent tobacco manufacturer Sante Fe Natural Tobacco company, makers of American Spirit cigarettes, for $340m.

There were reports mid-2003 that the company had discussed the possibility of a merger or joint venture with Brown & Williamson, the US division of British American Tobacco, in order to compete more effectively with Philip Morris. A deal was announced in November under which RJ Reynolds acquired B&W for around $2.6bn in shares, giving BAT a 42% stake in the merged company. The deal was cleared by regulators in June 2004 and completed a month later.

Last full revision 19th January 2016

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