Rothmans Inc. investors are no doubt celebrating Thursday's $2-billion takeover bid from Philip Morris International Inc., which values the Rothmans shares at $30 – a hefty premium when you consider that the shares have never traded that high (accounting for a recent share split). But what about Philip Morris investors?
According to Adam Spielman, an analyst at Citigroup, the deal increases the risk profile of the U.S.-based company, which was spun off from Altria Group Inc. earlier this year, simply because the legal environment in Canada is the most hostile toward tobacco companies anywhere outside the United States. Indeed, he doesn't like the deal, even after considering that Rothmans is a cash cow with EBITDA margins (earnings before interest, taxes, depreciation and amortization) of 50 per cent.
“Because PMI has a market cap of $109-billion (U.S.), the deal is not material financially,” he said in a note to clients. “However, it does increase PMI's litigation exposure.”
PMI shares have barely budged on the news of the deal, probably owing to the fact that it represents just 1.8 per cent of PMI's market capitalization. They traded at $52.13 on Friday morning, up 48 cents.
Mr. Spielman noted that British Columbia's government is suing tobacco companies for $10-billion (Canadian) for past and expected healthcare costs, using recent changes in law to bolster its case. For example, the law makes it difficult for tobacco companies to argue that consumers have known about the harmful consequences of smoking for many years. If the case is successful – a trial date is expected in 2010 – other provinces are likely to join in.
“We don't like PMI's increased exposure to the B.C. and similar cases, but it is not enough, at least for now, to make us waver from our Buy recommendation,” Mr. Spielman said. He has a target price of $64 (U.S.) on the shares.
