RJR deal targets Philip Morris

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The merger of R.J. Reynolds and Brown & Williamson will create a bigger No. 2 cigarette maker, but it will remain far behind tobacco titan Philip Morris and continue to face threats from discount brands in a shrinking market.

Confirming a long-anticipated combination, R.J. Reynolds Tobacco Holdings and British American Tobacco last week agreed to merge U.S. operations into a new company, Reynolds American. RJR will buy BAT's Brown & Williamson Tobacco Corp. for about $3 billion and assume legal liabilities. BAT will own 42% of Reynolds American. The new venture will control nearly 33% of the U.S. cigarette market (22% from RJR and 10.6% from B&W), still far removed from the 50% share of Altria Group's Philip Morris USA. If Reynolds American can achieve a projected $500 million in annual cost savings, it will be in better position to battle its big rival.

The merger, assuming it gets regulatory approval, will reshape a market from Philip Morris vs. everyone else to one dominated by two giants with a combined 83% of the market. The rest will be split among Loews Corp.'s Lorillard, Vector Group's Liggett Group and a host of upstart discount brands.

reunited

With cigarette marketing virtually limited to in-store promotion and print ads-even RJR later this month gives up its famed 31-year Winston sponsorship with Nascar-the merger is a clear indication that the only way to grow is to buy market share.

The merger reunites companies split in a landmark antitrust case that broke American Tobacco Co.-with its 90% market share-into a new American Tobacco, Reynolds, BAT, Lorillard and Liggett. BAT's B&W bought American Tobacco in 1994.

How the combination affects ad agencies remains to be seen. WPP Group's Ogilvy & Mather, Chicago, and 141 Worldwide, New York, handle Brown & Williamson's Pall Mall and Kool. RJR uses Mezzina/Brown & Partners, New York, on Camel; Coyne Beam, Greensboro, N.C., for Doral; and Gyro Worldwide, Philadelphia, for Salem.

"It will be up to the new management team to make decisions on anything that will relate to the marketing of the various products," said Maura Payne, RJR VP-communications. Added a B&W spokesman: "We're still competitors right now. All of that will be determined next year."

"We'll have to see how [the merger] shakes out in terms of management structure, organization and client control or influence," WPP Group Chief Executive Martin Sorrell said on an agency earnings call last week.

It will take until mid-2004-and perhaps longer-for the deal to close. Analysts are skeptical about prospects.

"We have not assumed any improvement in underlying volumes, nor have we given RJR full credit for its promised cost savings," Martin Feldman, analyst for Merrill Lynch, said in a report. He added that the deal may also face regulatory hurdles.

contributing: mercedes m. cardona

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