Lorillard Inc. (LO) climbed to a record high yesterday on renewed speculation that Reynolds American Inc. (RAI), the second-largest seller of cigarettes in the U.S., will make a bid for its smaller rival.
The shares jumped 10 percent to $62.63 yesterday after Reuters reported that Reynolds is in advanced talks to acquire Lorillard. The deal could take the form of a three-way transaction involving British American Tobacco Plc (BATS), which would take a “major role” in backing the merger, Reuters said.
The two companies are the biggest sellers of tobacco in the U.S. after Altria Group Inc. (MO), and a deal would combine Reynolds brands such as Camel and Pall Mall with Lorillard’s Newport and Maverick. Newport is the nation’s top-selling menthol cigarette, which is popular in urban areas.
“It would certainly make for a stronger No. 2,” Bonnie Herzog, an analyst with Wells Fargo & Co. in New York, said in an interview. The Newport brand will give Reynolds a boost in the traditional cigarette industry, and Lorillard’s Blu electronic cigarettes will help it tap a fast-growing market, she said. The analyst has the equivalent of a buy rating on both Lorillard and Reynolds.
Merger speculation has propelled Lorillard shares up 24 percent this year through yesterday, while Reynolds’ stock has risen almost 20 percent. Lorillard has a market value of about $22 billion.
Bob Bannon, a spokesman for Greensboro, North Carolina-based Lorillard, declined to comment on the report, as did Bryan Hatchell, a spokesman for Winston-Salem, North Carolina-based Reynolds.
Shrinking U.S. demand for cigarettes is putting pressure on tobacco companies to team up. Cigarette shipment volumes fell by a median of 2.9 percent among the industry’s top U.S. companies, according to data compiled by Bloomberg Industries. While electronic cigarettes offer a growth opportunity, that market is still young and faces mounting regulation.
The Financial Times reported in March that Reynolds had hired Lazard to explore a deal. The companies are now working to finalize the transaction in the coming weeks, though it could take longer to come together because of the complexity, Reuters said, citing anonymous sources.
After its run-up yesterday, Lorillard declined 5.4 percent to $59.24 as of 10:25 a.m. in New York. Reynolds American fell 2 percent to $58.58 today after gaining 4.4 percent yesterday.
British American Tobacco, the London-based cigarette giant, owns 42 percent of Reynolds American. A standstill agreement barring the British company from increasing its stake ends in July. That could open the door to the companies working closer together amid a broader push for industry consolidation.
BAT may help finance Reynolds’s bid, Reuters said. That might let it maintain its stake in Reynolds, which has a total market value of $32 billion.
BAT shares advanced as much as 2.8 percent in London today, the steepest intraday gain in more than a month. The company is valued at about 67 billion pounds ($113 billion).
“We don’t know precisely what, if any, transaction could emerge, but we suspect that assuming one does it will be advantageous for BAT,” Adam Spielman, an analyst at Citigroup Inc. in London, said in a note.
Lorillard was founded in 1760 and calls itself the oldest continuously operated tobacco company in America. Aiming to capitalize on e-cigarette growth, the company acquired Blu eCigs in 2012 and Skycig in 2013. Blu has about 40 percent of the U.S. e-cigarette market.
Combining with Reynolds would bring a huge opportunity to cut costs, Ken Shea, an analyst for Bloomberg Industries, said in an interview.
“Think about all the redundancy of activities, whether it’s sales, manufacturing, the overhead,” he said. “There is just so much obvious synergy between these two companies.”
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