Reynolds American (RAI) is one of the largest cigarette and tobacco products manufacturers in North America, trailing only Altria Group (MO – formerly Philip Morris). RAI commands about 28% of the U.S. tobacco market vs. Altria’s 50% share. The company has a wide array of cigarette brands covering every general category such as premium (Camel, Winston), branded menthol (Kool), and discount (Pall Mall, Doral).

In 2006, the company acquired Conwood, the second largest manufacturer of smokeless tobacco products, for $3.5 billion, adding popular brands such as Grizzly and Kodiak. Reynolds also runs the Santa Fe Natural Tobacco subsidiary, which produces the American Spirit brand of additive-free cigarettes. The current company was formed in 2004 when R.J. Reynolds merged with Brown & Williamson, the U.S. arm of British American Tobacco (BTI).

Tobacco stocks are a much-maligned group that have nevertheless delivered outstanding long-term returns to shareholders. Wharton professor Jeremy Siegel, in his book The Future for Investors (MagicDiligence review), showed how Philip Morris was by far the best original S&P 500 stock, returning an amazing 19% annually to shareholders over a 50 year period! This is due mainly to the effects of compounding reinvested dividends, especially when combined with the inherent volatility in the share price. When the share price goes down, the dividend yield goes up, and investors that reinvested Philip Morris’ substantial and always rising (42 consecutive years) dividend were rewarded handsomely.

Reynolds American profiles very similarly. The stock pays out about 75% of free cash flow to shareholders, resulting in a current dividend yield of about 6.7%. That yield looks safe, too, as Reynolds has been able to maintain stable free cash flow levels since going public. But does the stock make a good Magic Formula investment, where our target holding period is just one year?

Clearly, the domestic cigarette industry is not a growth market. Volume shipments have been declining in the low-to-mid single digits for the last 10 years, and have accelerated into double digit territory this year due to a massive federal excise tax hike (detailed in my Vector Group (VGR) review), combined with some state hikes, smoking bans, and increased regulatory pressure from the FDA. Reynolds has made some moves to mitigate these, such as the Conwood purchase (smokeless is still a growing market) and increased R&D efforts behind alternative tobacco products (like innovative Camel sticks and snus), but organic revenue growth potential is meager at best. Reynolds cannot benefit from international growth, either, as BTI holds a non-compete agreement and Japan Tobacco holds overseas brand rights.

The firm’s competitive position is a mixed bag. On the one hand, the U.S. tobacco market is basically an oligarchy consisting of Reynolds, Altria, and much smaller Lorillard (LO). The Master Settlement Agreement (MSA) with state governments in the 90′s mandates payments for health claims, which costs Reynolds about $2.8 billion dollars a year. Any new competitors would be bound to this agreement as well, and this overhang combined with the daunting scale and brand equity enjoyed by the incumbents, not to mention tight restrictions on advertising, pretty much shuts out new entrants entirely. Over the long run, limited competition generally helps avoid prolonged and irrational pricing wars.

On the other hand, Altria has proven to be very aggressive in seeking market share, even to the detriment of their own margins. That company purchased #2 smokeless maker UST last year, acquiring the Skoal and Copenhagen brands. In a bid to stem UST’s long decline in market share, Altria slashed prices, which could adversely affect Conwood’s slice of the pie (currently about 29%). Also, since Altria enjoys dominant market share with their Marlboro brand, Reynolds is forced to price Camel to similar levels. With declining volumes and geographic expansion out, market share becomes the only way to grow, possibly leading to price cutting. This, of course, equals lower sales, lower profit margins, and lower profits for all involved. It is a potential risk over a one-year MFI holding period.

RAI currently has about a 13% earnings yield, which is not extremely cheap for a cigarette company with limited growth prospects and lots of legal and regulatory risks. I find it odd that Altria and Philip Morris International (PM) do not rank higher in MFI, as both of them have earnings yields in the 20% range with similar returns on capital. With MO’s scale and share advantages and PM’s international growth potential, both of these stocks look like better buys than RAI. MagicDiligence is still giving RAI the “thumbs up” due to its meaty and safe dividend combined with declining near-term legal risks, but I think there are much better opportunities in the MagicDiligence Top Buys list.

A smoking ban was passed by the Michigan Legislature on December 10, but it will not include three Detroit casinos. Smoking will be allowed in these casinos due to the fact that tribal casinos are not affected by the smoking ban so the competition would be unfair if the Detroit casinos were banned from smoking.

The bill now goes to Democratic Governor Jennifer Granholm, who is expected to sign it. Once signed, the ban will take effect in May 2010. At that point the ban would make smoking in bars, restaurants and work places against the law.

Once the bill is signed, Michigan would become the 38th state to limit smoking in public places such as government buildings and bars and restaurants.

In 1998 the state of California encouraged other states such as New York to implement bans in their states. California’s smoking ban included a ban of smoking in bars, extending the statewide workplace smoking ban enacted in 1994. As of April 2009 there were 37 states with some form of smoking ban.

All of the states have differing regulations with some common denominators such as no smoking in office buildings or public places such as shopping malls. In California, more than 20 cities have smoking bans at parks or beaches.

There have been mixed feelings across the country as each state takes on the issue of smoking bans. Those who smoke feel that they are losing their rights and some have boycotted establishments that do not allow smoking. However, as more states incorporate the bans, it becomes more commonplace and less of an issue.

In the United States, smokers and hospitality businesses initially thought that businesses would suffer from smoking bans. In 2006 a review by the U.S. Surgeon General found that smoking bans were unlikely to harm businesses in practice, and that many restaurants and bars might see increased business.

More non-smokers felt comfortable going out to eat in a restaurant that was not filled with smoke when bans were in place. Bars did not suffer as much as they thought and accommodated smokers with sheltered outdoor smoking areas.

As a non-smoker, it’s difficult to see the opposition for the ban and easy to be excited about the fact that more states are banning smoking in public places — or ‘shared airspace’. However, there are arguments from smokers that are understandable due to the addictive nature of nicotine.

Electronic cigarettes have been making their way into the news and may be an option for those who really need to smoke in banned areas of the country. The health effects of using electronic cigarettes are currently unknown.

Some electronic cigarette companies claim that the harmful material produced by the combustion of tobacco in traditional cigarettes is not present in the atomized liquid of electronic cigarettes.

Once the Michigan law is signed, the closest state to Michigan without a smoking ban is Indiana.

Written by Cheryl Phillips
sources: wikipedia, FDA, Smokefreeworld.com

Canada’s federal government, accused of promoting so-called light cigarettes, must be a defendant in a British Columbia lawsuit seeking compensation from tobacco companies for the treatment of smoking-related illnesses.

The Court of Appeal for British Columbia yesterday overturned a trial judge’s decision that cleared the federal government and, in a 3-2 decision, ruled it must be added as a co-defendant as requested by the tobacco companies.

“The B.C. decision will demonstrate that the government of Canada has known about the risks associated with smoking for decades and that it instigated and promoted the development and sale of lower-tar tobacco products,” Donald McCarty, Imperial Tobacco Canada Ltd.’s vice president of law, said in a statement.

British Columbia was the first Canadian province to sue over the cost of treating smokers in the government-funded health-care system for cancer and other tobacco-related illnesses. The province is seeking unspecified damages, as is New Brunswick. Ontario, Canada’s most populous province, sued tobacco manufacturers for C$50 billion ($47 billion).

The tobacco companies, which include Japan Tobacco Inc.’s JTI-MacDonald, British American Tobacco Plc and Rothmans Inc., claim the federal government knew of the risks of smoking, while regulating the industry, and in the 1960s pressed the tobacco manufacturers to promote lower-tar cigarettes.

The government’s actions contributed to the losses the cigarette manufacturers may incur from the provincial suits, the companies said.

Officials from Canada’s Justice Department didn’t immediately respond to a phone call seeking comment after regular business hours yesterday.

The case is British Columbia vs. Imperial Tobacco Canada Ltd., 2009 BCCA 540, Court of Appeal for British Columbia (Vancouver).

Health minister investigating ban on addictive water pipe tobacco as study shows greater risk to young people

The message from Health Minister Jakob Axel Nielsen is clear: young people are hitting the hookahs too much and the addictive tobacco used in the water pipes should be banned.

A parliamentary majority supports a ban on the sweet-flavoured tobacco used in water pipes, and Nielsen agreed measures needed to be introduced to protect the young.
‘It’s a really bad idea to have sweet addictive tobacco in water pipes and worrying that it’s become so popular among young people, which is why I’m investigating whether we can introduce a ban in Denmark,’ Nielsen said to DR News.

The move comes on the heels of a study carried out by the National Cancer Society and Maastricht University, which found young people who use water pipes are three times as likely to smoke regular cigarettes.

About 800 Danish students aged 15-16 were monitored for a year as part of the study. Most had tried smoking cigarettes, but were not regular smokers, while about half had tried smoking using a water pipe.

The study showed that boys in general used water pipes more. But it confirmed that the more any student smoked from a pipe, the higher the risk of them becoming regular cigarette smokers.

About two thirds of common tobacco used in water pipes consists of additives, and the Cancer Society would like to see a ban on sweet tobacco similar to that introduced in Germany.

‘Children and young people don’t experience it as real smoking because it tastes and smells sweet. But the smoke is dangerous – partly in and of itself and partly because water pipes provide an easier way for young people to get into heavier cigarettes,’ said Poul Dengsøe Jensen, project leader in the Cancer Society.

‘I think the tobacco should be banned like in Germany, where tobacco containing more than 25 percent sugar and other additives is illegal,’ he said.

12 November 2009, Cphpost

A man from Cumbria has admitted selling counterfeit cigarettes to a child from his ice cream van.

Anthony Wharton, 61, of Marsden Street, Barrow was caught by trading standards officers who found him selling cigarettes to a 16-year-old.

He pleaded guilty at Furness and District Magistrates Court to three charges of selling counterfeit cigarettes.

He also admitted one count of selling cigarettes to a minor.

Wharton admitted he would often sell cigarettes to children whom he thought looked old enough, but he failed to ask for proof of age.

After a raid at his home on 14 October 1,360 counterfeit cigarettes were found.

Wharton must pay court costs of £350 and surrender all counterfeit cigarettes.

He was also ordered to complete 60 hours unpaid community work.

30 October 2009, Bbc

Officials consider cigarette vending machines a way to increase smoking among children. One in six child smokers use vending machines, research suggests, but the true figure could be much higher. That’s why they plan to ban them for to restrict the sale of tobacco.

The British Heart Foundation (BHF) said that the machines make it too easy for young people to buy tobacco underage.
As part of the Health Bill, which will be discussed in Parliament, the Government has proposed that the methods should be age limited, for example by a landlord or shopkeeper granting use via slight control.

But the BHF are not sure that the cigarette vending machines will be banned so easy, because these machines yield good returns.
For example half of the 300 pub bosses surveyed said they earned £500 or less from the machines per year, and 63% felt removing them would have no impact on their business.

Peter Hollins, chief executive of the BHF said: “The Government’s plan is unworkable and unrealistic. The message from the pub industry is loud and clear, they can’t make these proposals work and the loose change they make from these machines isn’t worth the difficulty of keeping them.”
He considers that the only people with a real interest in vending machines are the tobacco industry. Statistics show that every year young people start a life time’s addiction on cigarettes by buying them from a vending machine. But the Government, unlike tobacco industry, needs to be braver and put the interests of children ahead of a commercial lobby.

Researchers found that last year 12% of children and young people in England who smoked regularly usually bought cigarettes from machines.
Mr. Hollins added: “We don’t allow other age restricted products like alcohol, fireworks or knives to be sold from vending machines. These are only sold where there is a face to face transaction over the counter.”
As it is known smoking is one of the biggest avoidable causes of death and disease in the country. However the vending cigarette machines continue to be allowed.

Sidewalk smokers, beware: The D.C. Council might be coming after you.

And people who buy cheap cigars — whether for legal or illegal purposes — you, too, should be on guard.

Three years after the council approved a ban on smoking indoors at bars and restaurants, the council is now considering a proposal to give business owners the right to ban smoking within 25 feet of the front door of an establishment.

The legislation, which also makes it a crime for anyone younger than 18 to possess tobacco, represents another step in the District’s efforts to curb smoking.

“I think it is reasonable to say to a proprietor you can put up no smoking signs if you’ve got a problem with people standing on the sidewalk in front of your establishment,” said council member Phil Mendelson (D-At Large), a sponsor of the bill.

In addition to Mendelson’s bill, council member Yvette D. Alexander (D-Ward 7) is proposing to ban the sale of single, cheap cigars, which she says are increasingly being used to roll marijuana.

“I am killing two birds with one stone,” Alexander said. “To make them unattainable to young people and, let’s face it, a lot of young people are using them to smoke marijuana.”

At a hearing Tuesday before the Committee on Public Safety and the Judiciary, supporters and opponents of both measures faced off over how far the District should go in controlling tobacco and drug use.

Mendelson, the chairman of the committee, said he wants to discourage young adults from taking up smoking while protecting non-smokers from the effects of secondhand smoke.

Several advocates for health organizations, including the American Lung Association, testified in support of Mendelson’s bill. Altria, the parent company of Richmond-based Philip Morris, also announced its support for the legislation, even though it would be the city’s first effort to allow restrictions on smoking in outdoor public spaces.

“It doesn’t go far enough,” said Bob Summersgill of Smokefree DC. “In California, they don’t allow smoking on beaches and [in] public parks, and I would love to see that here, even though we don’t have that as a goal.”

But Joan Jackson, smoking in front of an office building on Pennsylvania Avenue on Tuesday, said she thinks the council is “going a little overboard.”

“The business owner, they don’t own the area out here; they shouldn’t be able to say who can smoke out here,” said Jackson, 53. “It’s a public street. . . . I think the government is getting a little too involved.”

Concerns about unnecessary government interference also dominated the discussion on whether to ban many single cigar sales.

Under the legislation, the ban would not apply to the city’s five tobacco shops that sell high-end cigars. Mendelson and Alexander said Tuesday they are also open to exemptions for cigar bars and restaurants.

The bill is aimed at convenience stores and other vendors who sell single cigars for $5 or less, which are associated with “blunts,” the street term for marijuana rolled in cigar paper.

Colin Ganley, a freelance reporter and cigar aficionado, told the committee he worries the proposed ban would unfairly target the city’s poorest residents.

“We have to be somewhat careful not to throw everyone who purchases these products, and may not have the incomes to buy other [cigars], under the bus,” Ganley said.

Alexander countered that few residents in her ward buy cigars for the tobacco. Instead, she said, companies are “targeting disadvantaged young people to promote drug use.”

But Darrell D. Gaston, an ANC commissioner in Ward 8, questioned how the proposed ban would be enforced, noting single cigars are often sold out of ice cream trucks in his neighborhood.

“We must stop putting band-aids on social problems,” Gaston said. “If you want to smoke, you will.”

By Tim Craig
Washington Post Staff Writer
September 30, 2009

Branding being used on some cigarettes may have consumers under the false impression that such products offer safer alternatives. According a study cited by the BBC, when words such as “smooth”, “silver,” or “gold” are used, people falsely believe the products are healthier and that it is easier to quit smoking with those cigarettes.

The survey looked of 1,300 participants—800 adults and 500 teens—who were shown branded and plain cigarette packages; when presented with the plainly packaged cigarettes, those surveyed no longer believed the cigarettes were healthier or easier to quit, said the BBC. The survey was conducted by researchers at the University of Nottingham, in Great Britain.

Participants were shown pairs of cigarette packs and were asked to make some comparisons between the two, such as either what they were like or were perceived to be like concerning “taste, tar levels, health risk, attractiveness, how easy they would be to give up, and how attractive they would be to someone choosing to smoke for the first time,” said the BBC. The study reveled that the participants believed that cigarettes packaged in lighter coloring was less harmful or had less tar, according to the BBC. The participants also falsely believed that when labeled with words such as “smooth,” as was the case with eight brands, that those cigarettes were less harmful, reported the BBC.

The European Union (EU), said the BBC, since 2002, has deemed it illegal for cigarette makers to use “trademarks, text or any sign to suggest that one tobacco product is less harmful than another.” The EU also bans phrases that include the words “low tar,” “light,” and “mild,” noted the BBC.

In the United States, President Barack Obama signed The Family Smoking Prevention and Tobacco Control Act into law in late June. The law will allow the federal government broad authority over tobacco products and will also allow regulators to control cigarette packaging and marketing as well as how much nicotine—the addictive component in cigarettes—is added in tobacco products, explained the Washington Post previously. By July 2010, verbiage including the words “light,” “low,” or “mild” will be banned from tobacco product marketing in the US and must “carry larger and stronger warning labels,” among other restrictions according to a prior USA Today report.

Portions of the law are being fought by some cigarette makers in the US in court—such as . R.J. Reynolds Tobacco Company and Lorillard Inc.—arguing that 1st amendment issues were not appropriately addressed. Proponents of the law cite the hundreds of thousands of deaths and billions of dollars in health care linked to cigarette smoking annually.

Professor David Hammond, of the Department of Health Studies and Gerontology at the University of Waterloo in Ontario, Canada, said: “The truth is that all cigarettes are equally hazardous, regardless of what colour the pack is or what words appear on it. These tactics are giving consumers a false sense of reassurance that simply does not exist,” quoted the BBC.

Smoking pot can cause as much damage to cells and DNA as tobacco smoke, according to a group of Canadian researchers who are challenging the belief that marijuana is less harmful than cigarettes. Rebecca Maertens, a researcher from Health Canada and co-author of the study, says many Canadians believe marijuana smoke is less toxic, and causes less damage than tobacco because pot is “natural.”

Despite several experiments that show marijuana use to have adverse health effects, the prevalence of marijuana use in Canada has increased over the past decade, while the incidence of tobacco use has decreased.

Nearly one quarter of Canadians between the ages of 15 and 24 reported using marijuana in the previous 12 months according to 2006 Statistics Canada report — over 14 per cent of those said they used the drug on a daily basis. The team behind this new study suggested that a lack of understanding about the dangers of marijuana plays a part in why youth are so cavalier about smoking it. Neither marijuana nor the main psychoactive component of the plant, THC, has been shown to cause cancer. There are, however, substances in marijuana that can be very harmful to a person, according to previous studies on the drug.

Negative health effects induced by smoking marijuana, such as chronic bronchitis, have been well documented, as have other negative health effects. A 2007 study from New Zealand, for example, examined the effects of cannabis on lung capacity. The results suggested that marijuana smoke compromised lung efficiency between 2.5 and five times more than tobacco smoke. Despite some knowledge surrounding marijuana’s adverse effects on human lungs, researchers still have little knowledge about the plant’s potential to cause lung cancer, Maertens said.

This is due in part to the difficulty researchers have had in identifying and following subjects who have smoked only marijuana, she said. In this study, scientists exposed animal cells and bacteria separately to smoke from marijuana and tobacco plants. Although marijuana smoke caused significantly more damage to cells and DNA than tobacco, according to the researchers, only tobacco smoke caused chromosome damage. But marijuana advocate Marc Emery dismissed the study when contacted Wednesday night. “Where is the proof of this DNA damage to Canadians?

Are there mutations in the 15 million Canadians who have smoked marijuana in the last 45 years?” said publisher of Cannabis Culture Magazine in an e-mail to Canwest News Service. “Cannabis consumption completely prevents Alzheimer’s disease, cleans the lungs by shrinking tumours and breaks down necrotic cells and clears them out of the lungs. Millions of Canadians use cannabis for relief of symptoms of multiple sclerosis, Crohn’s disease, epilepsy, chemotherapy, opiate medications, and numerous other ailments . . . This study is false and is in fact blatant lies once again from the least trustworthy source of health information in Canada — the lackeys at Health Canada.” Emery is on a cross-Canada farewell tour before he surrenders to U.S. narcotics officials to face charges in that country.

© Ottawacitizen