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July/August, 2009

Key Markets of Imperial’s Empire

Staff Report

More than a year since its acquisition of Altadis, we take a look at how the deal has enhanced the company’s presence in several key markets.

In January 2008, tobacco giant, Altadis, became part of even-larger tobacco giant Imperial. This was one of several big events for Imperial in their 2008 financial year. Overall cigarette volumes jumped up nearly 50% to 292 bn cigarettes (helped, not only by the Altadis acquisition, but by the Commonwealth Brands acquisition in 2007). Fine cut tobacco volumes went up 25,000 tons and cigar volumes increased dramatically, as well.

Integrating Altadis has been labeled a “key focus” by the company, and is a process that is continuing into 2009. The company has successfully completed all consultations, enabling the further implementation of the European integration projects it announced in June 2008. The company has completed the integration of its sales and marketing teams in Spain and France and remains on track to achieve its synergy targets.

United Kingdom
Imperial is the top cigarette maker and fine cut tobacco producer in the UK, in regards to volume. By the company’s own estimations, the market in the UK has declined by 5% to 45.5 bn cigarettes, from almost 48 bn in 2007. Imperial blames some of this drop to the smoking bans that were introduced into England, Wales, and Northern Ireland, while the rest was attributable to the standard long-term decline. Interestingly enough, the volume of fine-cut tobacco rose by 7% over 2007, as many consumers are downtrading to cheaper alternatives to cigarettes. In the first six months of its current financial year, the company estimates that the fine cut tobacco market grew by 15% to 4,100 tons. Both cigarette and fine cut tobacco benefited from a reduction in the purchases of UK brands abroad, as the impact of a weaker economy and currency reduced overseas travel.

Imperial leads the UK market in cigarettes, fine cut tobacco, and rolling papers. They have a commanding 45.9% cigarette market share, led by Lambert & Butler and Richmond, the two best-selling cigarette brands in the country with a combined share in excess of 30%. Imperial’s value offering, Windsor Blue, had another successful year, increasing its market share to 3% (2007: 2.6%).

Value brands and products are growing in many mature markets, particularly those with high taxation as consumers continue to downtrade in search of value, and the UK is no exception. Downtrading is likely to continue in the current economic climate, and to capitalize on this, the company launched the JPS Silver range in the economy sector in November 2008.

Imperial’s fine cut tobacco market share declined to 61.6% in 2008 (2007: 63.6%), with their market leading premium brand, Golden Virginia, declining due to downtrading. However, this has been addressed in 2009 through the launch of Golden Virginia Yellow, a value alternative. Gold Leaf, another fine cut tobacco brand positioned in the value segment, has continued to build its market share in Imperial’s current financial year and is now up to 3.7%.

Rizla, the world’s leading rolling paper brand and number one in the UK, delivered another strong performance in the year.

Imperial still expects a more normal rate of decline in duty paid cigarette volumes in the coming year, and further growth in duty paid fine cut tobacco volumes.

In Germany, duty paid cigarette volumes declined in 2008 by an estimated 3% to just under 88 bn cigarettes (2007: 91 bn). This was largely influenced by the introduction of public smoking restrictions in all German states. These restrictions have since eased in the majority of states, following a court decision that ruled that some aspects of the legislation were unconstitutional. In the first six months of Imperial’s 2009 financial year, the cigarette market was down by 3%.

Downtrading remains a key dynamic, with the value price sector share now up to 24% of factory made cigarettes (2007: 19%). Private label’s cigarette share continues to fall, now down to 11.3% (2007: 12.5%).

The level of both legal and illegal cross-border flows reduced slightly to an estimated 20% during the year, but still remains a significant problem.

Other tobacco product volumes fell by an estimated 5% to 34 bn cigarette equivalents (2007: 36 bn). This was largely due to a 24% decline in eco-cigarillos as a result of legal changes to product specifications.

Against a challenging market environment Imperial has delivered a number of good performances in Germany, including increasing cigarette share to 27.4%.

In recent years JPS has achieved significant success and continued to build on its impressive growth record in 2008. JPS now accounts for 7.8% of the market (2007: 6.4%) and has become the second best-selling cigarette brand in Germany. Imperial’s mid-priced brand West continues to be impacted by downtrading, but the premium brand, Gauloises Blondes, was resilient in maintaining its share at 5.6%.

Imperial’s market share of other tobacco products was up to 20%. Both JPS and Route 66 made market share gains to 8.4 and 2.5% respectively and performed particularly well in the make your own sector.

Imperial continues to manufacture eco-cigarillos and during the year and improved the company’s share of this segment to 15.1%.

The Altadis acquisition significantly enhanced Imperial’s position in Spain and now the company boasts a market-leading position across all tobacco categories.

The company’s cigarette market share was 37.1% last year (up from 5.9% the previous year) with Fortuna, a mid-price offering and the second best-selling cigarette brand in Spain, broadly maintaining its share at 12.1%.

Nobel, also in the mid-price sector, and value brand Ducados Rubio performed well in the year, growing their shares to 6.1 and 4.9% respectively.

Imperial’s fine cut tobacco market share has declined to 49.1%, as a result of competition and downtrading. The company says they have taken steps to address the price repositioning of Golden Virginia and Drum during the year.

The company’s cigar market share, including the Habanos brand, is at 36.8%, mainly driven by three brands: Farias, Vegafina and Dux. All three brand families are building on a broad and loyal consumer base and are represented across all the different sub-segments.

With Farias, Imperial is number one in both large and miniature cigars, whilst Vegafina is the leading non-Habanos premium brand and Dux is number two in the medium-sized segment.

Rest of EU
Imperial’s previous “Rest of Western Europe” reporting region has been replaced by a “rest of the EU” segment. France is the key market in this region and is a country where the Altadis acquisition has significantly increased cigarette share, now up to 29.3% with gains from JPS, Gauloises Blondes, News and Fortuna. Imperial is the leader in the French cigar market with a 23.5% share.

The company delivered a good performance in Poland, growing Route 66 and West, while JPS and Fortuna improved Imperial’s position in Belgium. JPS also helped to increase Imperial’s share in The Netherlands and achieved further growth from Davidoff in Greece, where their cigarette share is now up to 10.9%.

The regional fine cut tobacco market remains extremely competitive. In The Netherlands, by far the largest regional market, their share was at 50.7% with both of Imperial’s value brands, Zilver and Evergreen, making gains.

In Hungary, the company has captured 40.6% of the rapidly growing fine cut tobacco market and the company’s share in the Czech Republic increased significantly to 51.8%, driven by strong growth in the Paramount brand.

Rest of the World
In the company’s “Rest of the World,” segment during 2008, which includes Australia, along with several markets in Asia and the Middle East, net revenue grew to Ł1,502 mn. Imperial boasts an excellent year in Africa, increasing volumes and market share in many countries. The acquisition of Altadis has enhanced the company’s position in this important growth region, giving Imperial a market leading position in Morocco, with key brand Marquise. Imperial’s volumes have also grown strongly in Algeria with Gauloises Blondes.

Performance in the Middle East has been equally strong, with further volume and share growth. Gauloises Blondes is now the company’s largest cigarette brand in the region, complemented by Gitanes and Davidoff.

Eastern Europe generates 54% of Imperial’s Rest of the World cigarette volumes, predominantly in Russia and the Ukraine. In Russia, sales were affected by de-stocking, both at the distributor and wholesale levels, following the merger of the two largest tobacco distributors.

In the Ukraine, the company increased volumes of their value brand Classic by 55%, while in Azerbaijan they further built on their track record of growth with gains from West and Davidoff.

In Asia, their Taiwan share declined, as a result of increased competition and downtrading. However, the company’s new cigarette factory in Taiwan is now fully operational, contributing to an improved financial performance in the first six months of 2009. In Vietnam, they have strengthened their position with a new production and sales joint venture, and in Laos the A brand generated further share growth.

Imperial’s presence in Asia has been strengthened as a result of the Altadis acquisition and the company now has a strong position in Cambodia.

Australia remains extremely competitive, particularly in the low price cigarette sector, resulting in a slight fall in their market share. However, Imperial continues to lead the fine cut tobacco market with a 61.1% share.

United States of America
Imperial sees the US as a key area of expansion. Imperial has sold rolling papers and tubes in the US since acquisition of the Rizla brand in the late ‘90s. While the litigation environment deterred Imperial from jumping into the tobacco market headfirst through the ’90s, the company’s acquisition of Commonwealth Brands in 2007 (the US’ fourth largest tobacco company) allowed the company to gain a standing.

Before the acquisition, Commonwealth boasted a 3.7% cigarette market share from a portfolio of discount brands, including USA Gold and Sonoma. Since last year, and perhaps due in part to the state of the economy and downtrading, the company’s US cigarette share has jumped to 4.3%.

Commonwealth Brands was one of the first tobacco companies to voluntarily sign the Master Settlement Agreement (MSA) and, like Imperial Tobacco, has never lost or settled any product liability claim.

In November 2007, Imperial Tobacco secured MSA membership in order to be able to sell their own tobacco brands in the USA, and so has been able to successfully launch the Davidoff cigarette brand in key cities across the USA and Fortuna in both Florida and Texas.

Additionally, at the time of acquisition, Commonwealth was the exclusive distributor of the Bali Shag and McClintock fine cut tobacco brands. Fine cut tobacco is a growth area in the USA and in addition to the Commonwealth products, Imperial has launched their own brand, Premier.

Imperial further enhanced their fine cut tobacco portfolio with the Rave brand following the acquisition of the company, Lignum 2, in May 2008. These initiatives have significantly developed their fine cut tobacco share, which had grown to around 9% in the first six months of 2009 compared to 3.4% in same period of the previous year.

Completing their multi-product portfolio is Imperial’s market-leading position in cigars, in terms of net sales, which was inherited through the Altadis acquisition. Imperial offers the broadest range of cigar products in the USA, from premium to mass market.

Although cigar sales have been generally affected by smoking restrictions and the decline of the economy, particularly in the premium category, the good performance of their brands in the natural wrapper segment and growth in cigarillos has offset any losses.

Altadis had a 51% stake in JR Cigars, a nationwide retailer of cigars and related products, and in October 2008, Imperial purchased the remaining shares to further strengthen their position in the market.

Africa and the Middle East
By Imperial’s own estimates, its Africa and the Middle East region accounts for almost 500 bn cigarettes annually and lays claim to “numerous opportunities for expansion through the introduction of brands across existing markets.” Imperial has 13 manufacturing plants in the region with a capacity of around 50 bn cigarettes, including facilities in Morocco, West Africa, and Turkey.

The company has found success in breaking into the region via acquisition. In 2001, Imperial acquired a majority stake in Tobacco, a major cigarette manufacturer and distributor with strong market shares in a number of African countries. With the acquisition of Altadis, Imperial further enhanced its position on the region and is now the market leader in many African markets including the Ivory Coast, Burkina Faso, and Senegal. Altadis also gave Imperial entry into Morocco and the company is now the number one player with their leading cigarette brand, Marquise as well as encouraging early results for the newly-launched Davidoff premium brand.

The company’s other key brands in Africa include Fine, Gauloises Blondes, Excellence, Mustang and Good Look. Mustang, a mid-priced brand in Burkina Faso, has grown market share to almost 46%, while Fine, a mid-priced brand sold in key markets such as the Ivory Coast, Chad, and Congo, has seen consistent volume growth. Excellence, a value brand also sold in the Ivory Coast, Senegal and Burkina Faso, has performed similarly well, as have Gauloises Blondes in Algeria and Good Look in Madagascar.

The company has also taken part in several social causes through its membership of the Eliminating Child Labour in Tobacco Foundation and helps tobacco growers develop sustainable agricultural practices as part of the Social Responsibility in Tobacco Production program. Additionally, ongoing community investment initiatives have also provided wide ranging support to local communities, including improved education and healthcare facilities.

The acquisition of Altadis has enhanced their geographic profile in the Middle East and has also considerably strengthened Imperial’s cigarette portfolio. Gauloises Blondes is now the leading cigarette brand for Imperial in the Middle East, complemented by Gitanes and Davidoff. These high-profile brands are supported by a number of regional and local brands, including Superkings and Golden Gate.

Davidoff has been “a real success story” in the region, recording compound annual growth of 44% over the last five years. Davidoff’s best selling market is Saudi Arabia, where its share now stands at over 9%.

Expanding operations in Turkey are also included in the Middle East region. Imperial entered the Turkish market in 2005 through the construction of a new cigarette factory. The company has since captured a 3.2% market share with their brands Klasik, West, and Davidoff, and hopes to strengthen their position with increased marketing investment.

Africa and the Middle East have been key growth regions for both Imperial Tobacco and Altadis, and the company sees further significant opportunities available in regards to the newly combined portfolio and geographic reach.

Tobacco International - July/August, 2009

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