A source close to Gallaher confirmed that it had approached Seita with an opening offer of 75 euros per share as a basis for detailed talks. This would value the maker of Gauloise and Gitanes cigarettes at 3.9bn euros (pounds 2.48bn).
This would outgun the stock and cash deal for Seita that was agreed at 3.09bn euros or 59.28 euros per share last month. Gallaher's proposal could see the companies merge, although it is unclear how management positions would be split in a combined group or how much cash would be involved.
Seita stock was suspended on the Paris bourse yesterday after rising 13.8 per cent to 58 euros. Gallaher closed down 2p at 368p. Should Gallaher, which has a market capitalisation of pounds 2.2bn, press ahead with a formal deal proposal, it would upset the French and Spanish governments, both of which have backed the link-up. Seita and Tabacalera have long operated as state-owned monopolies, but have been increasingly privatised in recent years.
"There has been this perception that Gallaher has fallen behind Imperial Tobacco in terms of doing deals abroad," said Charles Pick, an analyst with WestLB Panmure.
"Gallaher has made no secret of the fact that it wishes to participate in international consolidation."
Although Paris and Madrid as well as the companies' managements are anxious for the Franco-Iberian deal to proceed, analysts said that market sentiment hasn't been as favourable. The French government retains a 3 per cent stake in Seita, which is considered ripe for major cost-cutting. The Spanish government holds a substantial controlling interest in Tabacalera.
Gallaher, which was demerged in 1997 from American Brands, is judged to be anxious to strike a deal. "Gallaher is very exposed to the UK market, which is declining very quickly," said an analyst. "A deal would also provide defence from a possible hostile take-over."
The proposed Seita-Tabacalera merger or an alternative deal with Gallaher would create the world's fifth-biggest tobacco group after Philip Morris, British American Tobacco, Japan Tobacco and China's state-owned tobacco industry.
Even though the number of smokers in Britain is growing, following years of decline, smuggling is rising more quickly. Analysts blame Britain's tobacco taxes, among the world's highest, for the fact that 20 per cent of pre-made cigarettes and 80 per cent of bulk rolling tobacco are smuggled from abroad.
The financial logic behind tobacco company mergers has been buttressed in recent months as cost savings have rapidly materialised since the June tie-up of BAT and Rothmans International. As part of a three-year plan to reduce costs by pounds 250m, BAT on Tuesday announced the closure of a plant in Spennymoor, County Durham, and other cost-saving measures.
Since its demerger, Gallaher stock has performed in line with the all- share index. However, in the past two months the shares have fallen nearly 20 per cent amid eroding sentiment for tobacco issues, some of which face mounting litigation claims in United States courts.