For Subscribers

Get the complete article now!

Two analysts and top management from three sector firms examine the Tobacco sector in this special 22-page issue from The Wall Street Transcript, available at (212/952-7433) or http://www.twst.com/info/info408.htm.

TWST: David, how have the tobacco stocks performed in 2001 year to date? What has been driving the performance of the stocks?

Mr. Adelman: To put it into context, the group performed extremely well in 2000. It was the second best performing sector in the S&P, up approximately 85%. And this year the group is up about 2%, which compares to a decline in the broader market (the S&P 500) of about 10%. So the tobacco stocks have again outperformed, particularly on a relative basis. I think you have two conflicting factors that have influenced performance this year. On the one hand, there is growing recognition that the legal environment has improved, particularly when viewed over time, and that earnings growth for the overall sector will accelerate somewhat going through the year. On the other hand, we believe that there has been somewhat greater than warranted concern over promotional spending levels in the US cigarette market and greater than warranted concern over the industry’s potential individual smoking and health legal risk in California.

TWST: What should investors make of the $100 million punitive damage award in the Boeken case? Does this raise the bar for future claims?

Mr. Adelman: I think probably the most important thing that occurred last week when the punitive damage judgment was reduced from $3 billion to $100 million was that Boeken has now become just a component of the broader California legal issue, whereas prior to the reduction, on an independent basis Boeken could have been a substantial issue. The key point in the reduction to $100 million is that Boeken is no longer potentially a singularly catastrophic event, but the initial verdict is clearly consistent with a continuing broader legal issue in California.

TWST: Are there any other cases that are likely to be heard in the second half of 2001 or the first half of 2002?

Mr. Adelman: There will probably be some cases, but it is always difficult to know with precision which cases will actually go to trial. In all likelihood, there will be at least one individual smoker case litigated in the second half of this year in California (Lucier; December 10). And then there will be two class action claims for medical monitoring — one in Louisiana, the Scott case, and one in West Virginia, the Blankenship case.

TWST: Moving on to Imperial Tobacco (NYSE:ITY), what’s the story there?

Mr. Adelman: We’re neutral on Imperial. I think, given their assets, in other words, their brands, and the markets in which they compete, there is probably not a tobacco company in the world that does a better job with what they have than Imperial — speaking in terms of profits, margins and growth. I think Imperial is an extremely well operated, highly focused company. But having said that, they traded at about 8 1/2 times this year’s estimated enterprise value to EBITDA, and at that valuation level, even among the non-US litigation exposed companies, we think that there are more attractive investment alternatives elsewhere.

This special issue includes:

1) Tobacco Stocks - In an in-depth (4,400 words) Analyst Interview, David Adelman, Principal at Morgan Stanley Dean Witter, examines the outlook for the sector and shares specific stock recommendations.

2) Outlook for the Tobacco Industry - In an in-depth (3,800 words) Analyst Interview, Bonnie Herzog, Vice President at Credit Suisse First Boston, examines the outlook for the sector and shares specific stock recommendations.

3) CEO interviews (average 2,500 words). Top management of three sector firms examine the outlook for their firm and the sector.