US: ITG Job Cuts Could Have Ripple Effect on Reynolds

Source from:  Winston-Salem (NC) Journal 04/26/2016

The large job cuts at ITG Brands LLC - 375 production workers - could have a ripple effect on Reynolds American Inc.'s future as well, according to analysts.

ITG confirmed Friday that it is eliminating about one-third of its Greensboro production workforce as it approaches the June 24 ending of a reciprocal production agreement with R.J. Reynolds Tobacco Co.

The Greensboro company is the U.S. subsidiary of Imperial Brands Plc of England.

Nearly one-fourth of the money Reynolds paid for its $29.25 billion megadeal for Lorillard Inc. - a predecessor to ITG - came from the $7.1 billion that Imperial paid for four traditional cigarette brands (Kool, Maverick, Salem and Winston) and blu eCigs. The divestiture was key to gaining federal antitrust regulatory approval.

Reynolds and Imperial chose to smooth the production hand-offs through the reciprocal production agreement.

That meant ITG production workers in Greensboro would continue to make Newport during a transfer period initially projected to take until the end of 2016. Reynolds production workers in Tobaccoville continued to make Kool, Salem and Winston.

Imperial has been subject to waves of analyst and media speculation that it could be on the block this year.

For example, Wells Fargo Securities analyst Bonnie Herzog and several British media outlets said March 8 that British American Tobacco Ltd. is the most likely suitor for a rumored purchase of rival Imperial - a deal that could be worth $82 billion with assumed debt.

Herzog said Thursday that "we continue to believe ITG's woes largely stem from a lack of brand focus and loss of leverage to powerhouses Reynolds and Altria."

"Although Winston promos have intensified, retailers aren't seeing a difference. Bottom line - we continue to believe a major strategic pivot is in order for ITG."

That affects Reynolds because the ITG job cuts could be a step in preparing Imperial and its subsidiaries for a buyer.

"We still believe an eventual takeout of Reynolds by BAT is likely, but the time horizon of when this could occur would realistically be extended if BAT acquires Imperial," Herzog said in March.

Reynolds spokesman David Howard has said that the company does not comment "on rumors or speculation."

BAT has owned 42 percent of Reynolds since July 2004 as part of Reynolds $4.4 billion purchase of BAT's U.S. subsidiary Brown & Williamson Tobacco Corp.

Because there was a 10-year moratorium on BAT buying additional Reynolds stock, there had been talk for a decade that BAT might acquire at least a majority ownership after the moratorium expired. BAT already holds five of 13 seats on Reynolds' board of directors.

If BAT were to fully acquire Reynolds, analysts say, it is likely Reynolds would operate as a U.S subsidiary of BAT with fairly limited overall effect on local jobs.

Herzog's report carries weight in large part because she was the foremost analyst to predict federal approval of the Reynolds-Lorillard deal when other analysts questioned the likelihood.

Herzog has said ever since rumors of Reynolds' plans to buy Lorillard surfaced in March 2015 that the deal could be step one for a BAT takeover of Reynolds. That way, BAT could own Newport without having to go through Federal Trade Commission antitrust concerns.

As part of Reynolds' purchase of Lorillard, BAT agreed to spend $4.7 billion on new Reynolds stock to keep its stake at 42 percent. Legacy Lorillard shareholders own 15 percent of Reynolds, and legacy Reynolds shareholders own 43 percent.

Herzog offered three scenarios for a BAT takeover of Reynolds, each with BAT financing the deal with 50 percent debt or 100 percent debt:

·an additional 8 percent ownership stake to become the majority owner

However, according to Reynolds' CEO Susan Cameron, BAT could not take over the Reynolds board unless it owned 100 percent of the company.

·Acquiring an additional 18 percent ownership stake, which likely would involve buying shares from legacy Lorillard shareholders

·Acquiring the remaining 58 percent ownership stake.

"By BAT gaining control of Reynolds, we also recognize BAT would be required to consolidate Reynolds' debt on its balance sheet, which would impact BAT's calculated leverage," Herzog said.

As of Dec. 31, Reynolds held $16.7 billion in debt, according to its fiscal 2015 report. Andrew Gilchrist, Reynolds' chief financial officer, has said that the company is focused on de-leveraging the debt as quickly as possible.

Herzog said that BAT is likely to spin off ITG Brands in a tax-free transaction to shareholders. Herzog said that ITG could be worth up to $12 billion in such a deal.

In April 2015, the chief executive of BAT, Nicandro Durante, said at the company's shareholder meeting that the expiration of the Reynolds stock-buying moratorium "doesn't change anything."

"In five years' time, will I go for Reynolds? We look at it on a yearly basis. Not only Reynolds, we look at all the investments in the world; we have a lot of minority stakes."

Speculation about BAT buying out Reynolds appeared to have subsided Dec. 1 when R.J. Reynolds Tobacco Co. announced it had signed a vapor technology sharing and licensing agreement with a BAT subsidiary.

Herzog said in December that "the strategic (vapor) partnership the companies are pursuing is the best of both worlds, and there is value created for shareholders whether or not Reynolds and BAT eventually combine." Enditem