Aug. 31 (Bloomberg) -- Altadis SA, the maker of Gauloises cigarettes and Cohiba cigars, said second-quarter profit dropped 36 percent as the Spanish cigarette market shrunk and it wrote down the value of its investment in Russia.

Net income fell to 90.4 million euros ($116 million) from 141.3 million euros a year earlier, spokesman Miguel Angel Martin said. The company was expected to report profit of 139.3 million euros, the median estimate of seven analysts surveyed by Bloomberg shows. Altadis had one-time costs of 55.8 million euros in Russia, where sales fell in the second quarter amid price competition.

Spain's cigarette market shrank 23 percent in value in the first half, according to the company, weighed down by an increase in discount brands, a workplace smoking ban and higher taxes. In February, Altadis said it would cut 239 jobs in France and 233 in Spain to slim down its administration.

``The anti-smoking laws and taxes hurt,'' said Pablo Garcia, a fund manager at Nordkapp Inversiones SV in Madrid who helps oversee the equivalent of $485 million. ``We ought to consider buying the stock later this year, when the company may have purged itself of what it's suffering from.''

Second-quarter sales fell 5.4 percent to 1 billion euros. Spain banned smoking in offices and billboard advertising for tobacco at the start of 2006. Cigarette taxes rose on Jan. 21 and again in February. The second increase involved a minimum tax of 1.10 euros per pack of 20, setting a floor on tobacco prices to combat the low-cost segment.

`Total Nightmare'

Fortuna, which Altadis sells in Spain for 2.20 euros a pack, has been hurt by competition from British American Tobacco Plc's Pall Mall and Imperial Tobacco Group Plc's JPS, both of which are sold at 1.85 euros a pack. The cheapest brands in Spain include Denim and Excite, sold at 1.75 euros.

Altadis has been ``living a total nightmare'' in Spain this year, Chief Executive Officer Antonio Vazquez said on a conference call.

The stock dropped 13 cents, or 0.4 percent, to 37 euros in Madrid. It has gained 5.3 percent in the past year, the smallest climb in the five-member Bloomberg Europe Tobacco Index, which has added 23 percent.

``The results are decent, given the difficulties in the market,'' said Javier Mata, an analyst at Nmas1 in Madrid. ``The restructuring weighed them down.''

`Worst-Case'

Second-quarter earnings before interest, tax, depreciation and amortization fell 4.6 percent to 299.2 million euros. The median estimate was 296.5 million euros. Altadis today raised its target for cost savings through 2008 by 7 percent to 215 million euros.

Difficult conditions in Spain cut 111 million euros from Ebitda, Chief Financial Officer Michel Favre said on a conference call. He maintained the company's 2006 ``worst- case'' scenario that those conditions will cut as much as 250 million euros from Ebitda.

Third-quarter Ebitda may fall about 5 percent, he also said. Second-half sales excluding Spain should rise 4 percent and full-year Ebitda excluding Spain will probably rise 3.5 percent, he said.

Altadis expects the government to raise the minimum tax on cigarettes again this year, which would help its profit margins as it would squeeze lower-priced rivals out of the market, Vazquez said. Cigarette makers will probably raise prices once the government does so, he added.

Sales this year excluding the Spanish cigarette business should rise at least 3 percent, Altadis said. The company plans to keep its policy of raising its dividend at least 10 percent, and will buy back 3 percent to 5 percent of its shares by June, Favre said.

Balkan Star

Altadis bought Balkan Star, a Russian cigarette maker, in 2004. The Russian business will probably be near break-even or be ``slightly negative'' in the full year, the company said.

France is considering imposing restrictions on smoking in restaurants though not in bars, Favre said, adding that no official proposal has been made yet. That would have a ``limited'' effect on its cigarette business, though it could affect cigar sales more, he said.

The company, formed in 1999 by the merger of the former French and Spanish tobacco monopolies, may sell 100 million euros to 200 million euros of ``non-core'' assets next year, Favre said.

First-half profit dropped 24 percent to 194.1 million euros and sales fell 0.6 percent to 1.93 billion euros. First- half Ebitda fell 1 percent to 550.4 million euros.

To contact the reporter on this story: Thomas Mulier in Madrid at tmulier@bloomberg.net.

Last Updated: August 31, 2006 12:02 EDT