BAT to smoke out acquisition targets

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The Independent Online

British American Tobacco, the maker of Lucky Strike and Dunhill cigarettes, yesterday ruled out a structured share buyback programme for 12 to 18 months, underscoring its desire for acquisitions.

The group, which acquired Rothmans in 1999 to become the world's second biggest tobacco company, was responding to investor pressure that it reinvest its strong cash flow. "We remain focused on acquisition opportunities," BAT said. However, it added that it would look at ways of returning cash to shareholders, such as via a share buyback or special dividend, within the next 12 to 18 months if its interest cover rose from a current level of seven times to above nine.

The comments came as BAT reported an unexpectedly large fall in volumes sold in the first three months of the year. Volumes slipped by 6 per cent to 183 billion "sticks", compared with the group's warning last December that full-year volumes would fall by 2 to 3 per cent as it tightened up its supply of duty-free exports to potential smugglers. Its shares initially sank 2 per cent lower before recovering to close down 6.5p at 702p.

Despite admitting that "volumes were running a little bit below expectations", Martin Broughton, the chairman, stuck to the group's earnings target for 2002 of high single-figure percentage earnings growth. This would match Philip Morris, the world's largest cigarette maker.

BAT reported a 1 per cent rise in pre-tax profits to £472m, ahead of forecasts, while total revenues were down 3 per cent to £5.96bn. Operating profits grew 5 per cent to £533m.

The group said it was encouraged that sales of its four global brands – Kent, Pall Mall, Lucky Strike and Dunhill – had grown by 3 per cent. It wants to drive volumes of these core brands, which account for 10 per cent of group sales, in Asia to counter declining Western markets. International brand volumes fell, it added.

BAT said that the unexpected volume declines had come in Russia, where tough price competition hit sales of low-priced brands and a distribution agreement was ended. Price increases in Pakistan and India and the loss of its deal to distribute Marlboro in the UK also affected volumes, it added.

Analysts said the rise in profits reflected a better product mix and higher margins. Andrew Darke, at Williams de Broe, said: "On balance, this was a fairly solid result."

While the European tobacco map remains fragmented, with Italy's state-owned cigarette maker among the prizes up for grabs, BAT said any acquisitions would need to be carefully studied for potential competition implications that could lead to forced brand sales. The group ruled itself out of the bidding for Germany's Reemtsma, which Imperial Tobacco snapped up for £3.5bn, earlier this year.

"BAT are doing things with their four core brands that are the envy of other tobacco companies so I hope they will get out there and do that with some other businesses," said Christopher Wickman at Lehman Brothers.

Analysts expect volume growth to resume next year by around 2 to 3 per cent as new BAT markets, such as Turkey and Nigeria, start to contribute.

The group, vying with Philip Morris and Gallaher to be the first to crack the Chinese market, expects to clinch a deal to establish a joint venture with the state-controlled tobacco monopoly within two months.

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