e10vq
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
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þ |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended September 30, 2009
OR
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o |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission file number: 1-32258
Reynolds American Inc.
(Exact name of registrant as specified in its charter)
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North Carolina
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20-0546644 |
(State or other jurisdiction of incorporation or organization)
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(I.R.S. Employer Identification Number) |
401 North Main Street
Winston-Salem, NC 27101
(Address of principal executive offices) (Zip Code)
(336) 741-2000
(Registrants telephone number, including area code)
(Former name, former address and former fiscal year, if changed from last report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its
corporate Web site, if any, every Interactive File required to be submitted and posted pursuant to
Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files). Yes þ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated
filer, a non-accelerated filer, or a smaller reporting company. See the definitions of large
accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the
Exchange Act. (Check one):
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Large accelerated filer þ
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Accelerated filer o
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Non-accelerated filer o
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Smaller reporting company o |
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(Do not check if a smaller reporting company) |
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Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act). Yes o No þ
Indicate the number of shares outstanding of each of the issuers classes of common stock as
of the latest practicable date: 291,376,154 shares of common stock, par value $.0001 per share, as
of October 9, 2009
Part I Financial Information
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Item 1. |
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Financial Statements |
REYNOLDS AMERICAN INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Dollars in Millions, Except Per Share Amounts)
(Unaudited)
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For the Three Months |
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For the Nine Months |
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Ended September 30, |
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Ended September 30, |
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2009 |
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2008 |
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2009 |
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2008 |
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Net sales(1) |
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$ |
2,045 |
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$ |
2,156 |
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$ |
6,017 |
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$ |
6,330 |
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Net sales, related party |
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107 |
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116 |
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306 |
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338 |
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Net sales |
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2,152 |
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2,272 |
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6,323 |
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6,668 |
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Costs and expenses: |
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Cost of products sold(1)(2)(3) |
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1,138 |
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1,229 |
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3,337 |
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3,698 |
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Selling, general and administrative expenses |
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371 |
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375 |
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1,129 |
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1,148 |
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Amortization expense |
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7 |
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5 |
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22 |
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16 |
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Restructuring charge |
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91 |
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91 |
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Trademark impairment charge |
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173 |
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453 |
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173 |
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Operating income |
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636 |
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399 |
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1,382 |
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1,542 |
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Interest and debt expense |
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60 |
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68 |
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190 |
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208 |
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Interest income |
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(5 |
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(16 |
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(15 |
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(51 |
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Gain on termination of joint venture |
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(328 |
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Other expense, net |
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2 |
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13 |
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9 |
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3 |
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Income before income taxes |
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579 |
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334 |
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1,198 |
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1,710 |
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Provision for income taxes |
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217 |
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123 |
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451 |
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630 |
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Net income |
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$ |
362 |
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$ |
211 |
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$ |
747 |
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$ |
1,080 |
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Basic income per share: |
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Net income |
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$ |
1.24 |
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$ |
0.72 |
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$ |
2.56 |
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$ |
3.67 |
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Diluted income per share: |
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Net income |
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$ |
1.24 |
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$ |
0.72 |
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$ |
2.56 |
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$ |
3.67 |
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Dividends declared per share |
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$ |
0.85 |
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$ |
0.85 |
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$ |
2.55 |
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$ |
2.55 |
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(1) |
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Excludes excise taxes of $1,155 million and $492 million for the
three months ended September 30, 2009 and 2008, respectively, and
$2,812 million and $1,429 million for the nine months ended
September 30, 2009 and 2008, respectively. |
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(2) |
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Includes Master Settlement Agreement, referred to as the MSA, and
other settlement agreements with the states of Mississippi,
Florida, Texas and Minnesota, which together with the MSA are
collectively referred to as the State Settlement Agreements,
expense of $643 million and $695 million for the three months
ended September 30, 2009 and 2008, respectively, and $1,917
million and $2,079 million for the nine months ended September 30,
2009 and 2008, respectively. |
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(3) |
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Includes federal tobacco quota buyout expenses of $61 million and
$59 million for the three months ended September 30, 2009 and
2008, respectively, and $179 million and $186 million for the nine
months ended September 30, 2009 and 2008, respectively. |
See Notes to Condensed Consolidated Financial Statements (Unaudited)
3
REYNOLDS AMERICAN INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in Millions)
(Unaudited)
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For the Nine Months |
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Ended September 30, |
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2009 |
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2008 |
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Cash flows from (used in) operating activities: |
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Net income |
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$ |
747 |
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$ |
1,080 |
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Adjustments to reconcile to net cash flows from (used in) continuing operating activities: |
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Depreciation and amortization |
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109 |
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106 |
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Gain on termination of joint venture |
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(328 |
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Restructuring charges, net of cash payments |
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(30 |
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81 |
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Trademark impairment charge |
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453 |
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173 |
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Deferred income tax expense |
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(184 |
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38 |
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Tobacco settlement accruals |
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79 |
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(283 |
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Other, net |
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(285 |
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(39 |
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Net cash flows from operating activities |
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889 |
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828 |
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Cash flows from (used in) investing activities: |
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Proceeds from settlement of short-term investments |
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17 |
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208 |
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Capital expenditures |
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(75 |
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(95 |
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Proceeds from termination of joint venture |
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24 |
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164 |
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Other, net |
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17 |
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(13 |
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Net cash flows (used in) from investing activities |
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(17 |
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264 |
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Cash flows from (used in) financing activities: |
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Dividends paid on common stock |
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(743 |
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(752 |
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Repurchase of common stock |
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(5 |
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(207 |
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Repayment of long-term debt |
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(200 |
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Excess tax benefit from stock-based compensation |
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1 |
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2 |
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Other, net |
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1 |
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2 |
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Net cash flows used in financing activities |
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(946 |
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(955 |
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Effect of exchange rate changes on cash and cash equivalents |
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9 |
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(23 |
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Net change in cash and cash equivalents |
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(65 |
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114 |
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Cash and cash equivalents at beginning of period |
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2,578 |
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2,215 |
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Cash and cash equivalents at end of period |
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$ |
2,513 |
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$ |
2,329 |
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Income taxes paid, net of refunds |
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$ |
584 |
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$ |
624 |
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Interest paid |
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$ |
149 |
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$ |
161 |
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See Notes to Condensed Consolidated Financial Statements (Unaudited)
4
REYNOLDS AMERICAN INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in Millions)
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September 30, |
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December 31, |
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2009 |
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2008 |
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(Unaudited) |
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Assets |
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Current assets: |
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Cash and cash equivalents |
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$ |
2,513 |
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$ |
2,578 |
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Short-term investments |
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6 |
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23 |
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Accounts receivable, net of allowance (2009 $1; 2008 $1) |
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93 |
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84 |
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Accounts receivable, related party |
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65 |
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91 |
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Notes receivable |
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35 |
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35 |
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Other receivables |
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15 |
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37 |
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Inventories |
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1,095 |
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1,170 |
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Deferred income taxes, net |
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912 |
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838 |
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Prepaid expenses and other |
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342 |
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163 |
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Total current assets |
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5,076 |
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5,019 |
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Property, plant and equipment, net of accumulated depreciation (2009 $1,563; 2008 $1,549) |
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990 |
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1,031 |
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Trademarks and other intangible assets, net of accumulated amortization (2009 $641; 2008 $619) |
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2,795 |
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3,270 |
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Goodwill |
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8,174 |
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8,174 |
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Other assets and deferred charges |
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603 |
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660 |
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$ |
17,638 |
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$ |
18,154 |
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Liabilities and shareholders equity |
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Current liabilities: |
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Accounts payable |
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$ |
112 |
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$ |
206 |
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Tobacco settlement accruals |
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2,396 |
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2,321 |
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Due to related party |
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3 |
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3 |
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Deferred revenue, related party |
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13 |
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50 |
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Current maturities of long-term debt |
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300 |
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200 |
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Other current liabilities |
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1,097 |
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1,143 |
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Total current liabilities |
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3,921 |
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3,923 |
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Long-term debt (less current maturities) |
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4,144 |
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4,486 |
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Deferred income taxes, net |
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233 |
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282 |
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Long-term retirement benefits (less current portion) |
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2,614 |
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2,836 |
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Other noncurrent liabilities |
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370 |
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390 |
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Commitments and contingencies: |
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Shareholders equity: |
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Common stock (shares issued: 2009 291,374,965; 2008 291,450,762) |
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Paid-in capital |
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8,490 |
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8,463 |
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Accumulated deficit |
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(530 |
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(531 |
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Accumulated
other comprehensive loss (Defined benefit pension and post-retirement plans: 2009 $(1,561) and 2008 $(1,643), net of tax) |
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(1,604 |
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(1,695 |
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Total shareholders equity |
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6,356 |
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6,237 |
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$ |
17,638 |
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$ |
18,154 |
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See Notes to Condensed Consolidated Financial Statements (Unaudited)
5
Notes to Condensed Consolidated Financial Statements (Unaudited)
Note 1 Business and Summary of Significant Accounting Policies
Overview
The condensed consolidated financial statements (unaudited) include the accounts of Reynolds
American Inc., referred to as RAI, and its wholly owned operating subsidiaries. RAIs wholly owned
subsidiaries include R. J. Reynolds Tobacco Company; Santa Fe Natural Tobacco Company, Inc.,
referred to as Santa Fe; Lane, Limited, referred to as Lane; Conwood Holdings, Inc.; and Conwood
Company, LLC and Rosswil LLC, collectively referred to as the Conwood companies.
RAI was incorporated as a holding company in the state of North Carolina on January 5, 2004,
and its common stock is listed on the NYSE under the symbol RAI. RAI was created to facilitate
the business combination of the U.S. business of Brown & Williamson Holdings, Inc., referred to as
B&W, with R. J. Reynolds Tobacco Company on July 30, 2004.
References to RJR Tobacco prior to July 30, 2004, relate to R. J. Reynolds Tobacco Company, a
New Jersey corporation and a wholly owned subsidiary of R.J. Reynolds Tobacco Holdings, Inc.,
referred to as RJR. References to RJR Tobacco on and subsequent to July 30, 2004, relate to the
combined U.S. assets, liabilities and operations of B&W and R. J. Reynolds Tobacco Company, a North
Carolina corporation.
RAIs reportable operating segments are RJR Tobacco and Conwood. The RJR Tobacco segment
consists of the primary operations of R. J. Reynolds Tobacco Company. The Conwood segment consists
of Conwood Holdings, Inc., the primary operations of the Conwood companies and Lane. RAIs wholly
owned subsidiary, Santa Fe, among others, is included in All Other. The segments were identified
based on how RAIs chief operating decision maker allocates resources and assesses performance.
Some of RAIs wholly owned operating subsidiaries have entered into intercompany agreements for
products or services with other RAI operating subsidiaries. As a result, certain activities of an
operating subsidiary may be included in a different segment of RAI.
RAIs operating subsidiaries primarily conduct their business in the United States.
Basis of Presentation
The accompanying interim condensed consolidated financial statements (unaudited) have been
prepared in accordance with accounting principles generally accepted in the United States of
America, referred to as GAAP, for interim financial information and, in managements opinion,
contain all adjustments, consisting only of normal recurring items, necessary for a fair
presentation of the results for the periods presented. Accordingly, they do not include all of the
information and footnotes required by GAAP for complete financial statements. For interim
reporting purposes, certain costs and expenses are charged to operations in proportion to the
estimated total annual amount expected to be incurred primarily based on sales volumes. The
results for the interim period ended September 30, 2009, are not necessarily indicative of the
results that may be expected for the year ending December 31, 2009.
The equity method is used to account for investments in businesses that RAI does not control,
but has the ability to significantly influence operating and financial policies. The cost method is
used to account for investments in which RAI does not have the ability to significantly influence
operating and financial policies. RAI has no investments in entities greater than 20% for which it
accounts by the cost method, and has no investments in entities greater than 50% for which it
accounts by the equity method. All material intercompany balances have been eliminated.
The condensed consolidated financial statements (unaudited) should be read in conjunction with
the consolidated financial statements and related footnotes, which appear in RAIs Annual Report on
Form 10-K for the year ended December 31, 2008. Certain reclassifications were made to conform
prior years financial statements to the current presentation. All dollar amounts, other than per
share amounts, are presented in millions, except for amounts set forth in note 11 and as otherwise
noted.
6
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Pension and Postretirement
Recognized gains or losses are annual changes in the amount of either the benefit obligation
or the market-related value of plan assets resulting from experience different from that assumed or
from changes in assumptions. The minimum amortization of unrecognized gains or losses was included
either in pension expense or in the postretirement benefit cost. Prior service costs, which are
changes in benefit obligations due to plan amendments, are amortized on a straight-line basis over
the average remaining service period for active employees. The market-related value of plan assets
recognizes changes in fair value in a systematic and rational manner over five years.
The components of the pension benefits and the postretirement benefits are set forth
below:
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For The Three Months |
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For The Nine Months |
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Ended September 30, |
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Ended September 30, |
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Postretirement |
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Postretirement |
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Pension Benefits |
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Benefits |
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Pension Benefits |
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Benefits |
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2009 |
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2008 |
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2009 |
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2008 |
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2009 |
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2008 |
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2009 |
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2008 |
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Service cost |
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$ |
8 |
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$ |
9 |
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$ |
1 |
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$ |
1 |
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$ |
24 |
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$ |
27 |
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$ |
3 |
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$ |
4 |
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Interest cost |
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|
80 |
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|
80 |
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|
20 |
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|
23 |
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|
|
239 |
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|
239 |
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|
60 |
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|
68 |
|
Expected return on plan assets |
|
|
(84 |
) |
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|
(113 |
) |
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(5 |
) |
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(7 |
) |
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|
(253 |
) |
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|
(338 |
) |
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|
(15 |
) |
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|
(20 |
) |
Amortization of prior service cost (credit) |
|
|
1 |
|
|
|
5 |
|
|
|
(6 |
) |
|
|
4 |
|
|
|
3 |
|
|
|
14 |
|
|
|
(18 |
) |
|
|
12 |
|
Amortization of net loss (income) |
|
|
24 |
|
|
|
1 |
|
|
|
4 |
|
|
|
(3 |
) |
|
|
74 |
|
|
|
4 |
|
|
|
11 |
|
|
|
(9 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net periodic benefit cost (income) |
|
|
29 |
|
|
|
(18 |
) |
|
|
14 |
|
|
|
18 |
|
|
|
87 |
|
|
|
(54 |
) |
|
|
41 |
|
|
|
55 |
|
Curtailments/special benefits1 |
|
|
|
|
|
|
7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
7 |
|
|
|
|
|
|
|
|
|
Settlements |
|
|
|
|
|
|
4 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total benefit cost (income) |
|
$ |
29 |
|
|
$ |
(7 |
) |
|
$ |
14 |
|
|
$ |
18 |
|
|
$ |
87 |
|
|
$ |
(43 |
) |
|
$ |
41 |
|
|
$ |
55 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1 |
|
See note 4 to condensed consolidated financial statements (unaudited) for more
information on the special pension benefits related to a 2008 restructuring at RAI and RJR
Tobacco. |
Employer Contributions
RAI disclosed in its financial statements for the year ended December 31, 2008, that it
expected to contribute a minimum of $50 million to its pension plans in 2009. As of September 30,
2009, RAI expected to contribute up to $295 million to its pension plans in 2009, of which $168
million was contributed during the first nine months of 2009. The increase in the expected
contribution amount in 2009 allows RAI to achieve targeted funded status and possibly reduce RAIs
future contributions.
Subsequent Events
RAI has evaluated events that occurred subsequent to September 30, 2009, through the financial
statement issue date of October 27, 2009, and determined that there were no recordable or
reportable subsequent events.
Recently Adopted Accounting Pronouncements
Effective January 1, 2009, RAI adopted guidance for the measurements and disclosure of fair
value for nonfinancial assets and nonfinancial liabilities. This new guidance does not require any
new fair value measurements but provides a definition of fair value, establishes a framework for
measuring fair value and expands disclosure about fair value measurements. It also establishes a
fair value hierarchy that distinguishes between independent and observable inputs and unobservable
inputs based on the best information available. The adoption of this guidance on nonfinancial
assets and nonfinancial liabilities did not have a material impact on RAIs consolidated results of
operations, cash flows or financial position.
7
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Effective January 1, 2009, RAI adopted authoritative GAAP that addresses whether instruments
granted in share-based payment transactions are participating securities prior to vesting and,
therefore, need to be included in the earnings allocation in computing earnings per share. As a
result, unvested restricted shares outstanding under the Reynolds American Inc. Long-Term Incentive
Plan, referred to as the LTIP, are included in basic EPS calculations. All prior-period earnings
per share have been adjusted retrospectively to conform to the provisions of this authoritative
GAAP, which slightly reduced basic and diluted net income per share for the nine months of 2008.
Effective January 1, 2009, RAI adopted guidance for the qualitative disclosures about the
objectives and strategies for using derivatives; quantitative data about the fair value of, and
gains and losses on, derivative contracts; and details of credit-risk-related contingent features
in hedged positions. This guidance also seeks enhanced disclosure around derivative instruments in
financial statements and how hedges affect an entitys financial position, financial performance
and cash flows. The adoption of this guidance did not have a material impact on RAIs consolidated
results of operations, cash flows or financial position.
Effective June 30, 2009, RAI adopted authoritative GAAP that provides additional clarification
for estimating fair value when the volume and level of activity for the asset and liability have
significantly decreased, as well as provides clarification on identifying circumstances that
indicate a transaction is not orderly. The adoption of this authoritative GAAP did not have a
material impact on RAIs consolidated results of operations, cash flows or financial position.
Effective June 30, 2009, RAI adopted authoritative GAAP that provides additional clarification
to make other-than-temporary impairments more operational and to improve the financial statement
presentation of such impairments. The adoption of this authoritative GAAP did not have a material
impact on RAIs consolidated results of operations, cash flows or financial position.
Effective June 30, 2009, RAI adopted guidance requiring disclosures about fair value of
financial instruments in interim financial statements as well as in annual financial statements.
The adoption of this guidance did not have a material impact on RAIs consolidated results of
operations, cash flows or financial position.
Effective June 30, 2009, RAI adopted authoritative GAAP that establishes general standards of
accounting for and disclosure of events that occur after the balance sheet date, but before
financial statements are issued or are available to be issued. The adoption of this authoritative
GAAP did not have a material impact on RAIs consolidated results of operations, cash flows or
financial position.
In
June 2009, the Financial Accounting Standards Board, referred to
as FASB, issued its Accounting Standards Codification, referred to as ASC. The ASC became the source of authoritative
GAAP recognized by the FASB to be applied by nongovernmental entities, effective for financial
statements issued for interim and annual periods ending after September 15, 2009. The adoption of
ASC had no impact on RAIs consolidated results of operations, cash flows or financial position.
Effective September 30, 2009, RAI adopted guidance clarifying the measurement of liabilities
at fair value when no observable data is available. The adoption of this guidance did not have a
material impact on RAIs consolidated results of operations, cash flows or financial position.
Note 2 Fair Value Measurement
RAI determines fair value of assets using a fair value hierarchy that distinguishes between
market participant assumptions developed based on market data obtained from sources independent of
the reporting entity, and the reporting entitys own assumptions about market participant
assumptions developed based on the best information available in the circumstances and expands
disclosure about fair value measurements.
Fair value is the price that would be received to sell an asset or paid to transfer a
liability in an orderly transaction between market participants at the measurement date,
essentially an exit price.
8
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
The levels of the fair value hierarchy are:
Level 1: inputs are quoted prices, unadjusted, in active markets for identical assets or
liabilities that the reporting entity has the ability to access at the measurement date.
Level 2: inputs are other than quoted prices included within Level 1 that are observable for
the asset or liability, either directly or indirectly. A Level 2 input must be observable for
substantially the full term of the asset or liability.
Level 3: inputs are unobservable and reflect the reporting entitys own assumptions about
the assumptions that market participants would use in pricing the asset or liability.
Financial assets carried at fair value on a recurring basis as of September 30, 2009, were as
follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Level 1 |
|
Level 2 |
|
Level 3 |
|
Total |
Money market funds |
|
$ |
2,257 |
|
|
$ |
|
|
|
$ |
6 |
|
|
$ |
2,263 |
|
Auction rate securities corporate credit risk |
|
|
|
|
|
|
|
|
|
|
23 |
|
|
|
23 |
|
Auction rate securities financial insurance companies |
|
|
|
|
|
|
|
|
|
|
21 |
|
|
|
21 |
|
Mortgage-backed security |
|
|
|
|
|
|
|
|
|
|
14 |
|
|
|
14 |
|
Marketable equity security |
|
|
20 |
|
|
|
|
|
|
|
|
|
|
|
20 |
|
Assets held in grantor trusts |
|
|
14 |
|
|
|
|
|
|
|
|
|
|
|
14 |
|
Interest rate swaps fixed to floating rate |
|
|
|
|
|
|
231 |
|
|
|
|
|
|
|
231 |
|
Interest rate swaps floating to fixed rate |
|
|
|
|
|
|
21 |
|
|
|
|
|
|
|
21 |
|
The fair value of the interest rate swaps, classified as a Level 2, utilized a market
approach model using the notional amount of the interest rate swap multiplied by the observable
inputs of time to maturity, interest rates and credit spreads. See note 10 for additional
information on interest rate swaps.
The fair value of the money market funds, classified as a Level 3, utilized an income approach
model and was based upon expected future cash flows from accumulated cash in the fund and future
maturities of the remaining securities held in the fund. During the first nine months of 2009,
redemptions of $4 million were received from the Reserve Fund-Primary Fund, and redemptions of $13
million were received from the Reserve Fund-International Liquidity Fund. No current valuations had
been issued by either fund, and RAI was unable to identify a similar fund that carried identical
holdings. As a result, the observable transactions and pricing were not current. The funds did
issue a detailed listing of the securities that were held and not matured, as well as their face
value and maturity date. This observable data, along with unobservable factors such as assumptions
about fund liquidation of accumulated cash and the collectability of the outstanding underlying
securities, were used to determine the fair value of the funds as of September 30, 2009.
The fair value of the auction rate securities, either related to certain financial insurance
companies or linked to the longer-term credit risk of a diverse range of corporations, including,
but not limited to, manufacturing, financial and insurance sectors, classified as a Level 3,
utilized an income approach model and were based upon the calculation of the weighted average
present value of future cash payments, given the probability of certain events occurring within the
market. RAI considers the market for auction rate securities to be inactive. The income approach
models utilized observable inputs, including LIBOR-based interest rate curves, corporate credit
spreads and corporate ratings/market valuations. Additionally, unobservable factors incorporated
into the models included default probability assumptions, recovery potential and how these factors
changed as collateral ratings migrated from one level to another.
The fair value for the mortgage-backed security, classified as a Level 3, utilized a market
approach and was based upon the calculation of an overall weighted average valuation, derived from
the actual, or modeled, market pricing of the specific collateral, depending on availability. The
market approach utilized actual pricing inputs when observable and modeled pricing when
unobservable. RAI has deemed the market for the mortgage-backed security to be inactive.
9
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
The changes in financial assets classified as Level 3 investments as of September 30, 2009,
were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Money Market Funds |
|
|
Mortgage-Backed Security |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross |
|
|
|
|
|
|
|
|
|
|
Estimated |
|
|
|
|
|
|
Unrealized |
|
|
Estimated |
|
|
|
Cost |
|
|
Fair Value |
|
|
Cost |
|
|
Loss |
|
|
Fair Value |
|
Balance as of January 1, 2009 |
|
$ |
23 |
|
|
$ |
23 |
|
|
$ |
37 |
|
|
$ |
(16 |
) |
|
$ |
21 |
|
Unrealized losses |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2 |
) |
|
|
(2 |
) |
Settlements |
|
|
(17 |
) |
|
|
(17 |
) |
|
|
(5 |
) |
|
|
|
|
|
|
(5 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of September 30, 2009 |
|
$ |
6 |
|
|
$ |
6 |
|
|
$ |
32 |
|
|
$ |
(18 |
) |
|
$ |
14 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Auction Rate Securities |
|
|
Auction Rate Securities |
|
|
|
Corporate Credit Risk |
|
|
Financial Insurance Companies |
|
|
|
|
|
|
|
Gross |
|
|
|
|
|
|
|
|
|
|
Gross |
|
|
|
|
|
|
|
|
|
|
Unrealized |
|
|
Estimated |
|
|
|
|
|
|
Unrealized |
|
|
Estimated |
|
|
|
Cost |
|
|
Loss |
|
|
Fair Value |
|
|
Cost |
|
|
(Loss) Gain |
|
|
Fair Value |
|
Balance as of January 1, 2009 |
|
$ |
95 |
|
|
$ |
(51 |
) |
|
$ |
44 |
|
|
$ |
17 |
|
|
$ |
(2 |
) |
|
$ |
15 |
|
Unrealized (losses) gains |
|
|
|
|
|
|
(21 |
) |
|
|
(21 |
) |
|
|
|
|
|
|
6 |
|
|
|
6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of September 30, 2009 |
|
$ |
95 |
|
|
$ |
(72 |
) |
|
$ |
23 |
|
|
$ |
17 |
|
|
$ |
4 |
|
|
$ |
21 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
On January 1, 2009, RAI adopted authoritative GAAP related to the measurements and
disclosure of fair value for nonfinancial assets and liabilities.
The fair value of the trademarks measured on a nonrecurring basis, classified as Level 3,
represent certain trademarks for which impairment during the first quarter of 2009 reduced their
book value to fair value. The fair value determination utilized an income approach model and was
based on a discounted cash flow valuation model under a relief from royalty methodology. This
approach utilized unobservable factors such as royalty rate, projected revenues and a discount rate
applied to the estimated cash flows. The determination of the discount rate was based on a cost of
equity model, using a risk-free rate, adjusted by a stock beta-adjusted risk premium and a size
premium. See note 3 for additional information with respect to the event during the first quarter
of 2009 that required impairment testing of trademarks and the assumptions used therefor, as well
as the consolidated amount of trademarks as of September 30, 2009.
The fair value of nonfinancial assets was not measured as of September 30, 2009. Nonfinancial
assets measured at fair value on a nonrecurring basis as of March 31, 2009, were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Level 1 |
|
Level 2 |
|
Level 3 |
|
Total |
|
Total Loss |
Trademarks |
|
$ |
|
|
|
$ |
|
|
|
$ |
875 |
|
|
$ |
875 |
|
|
$ |
(453 |
) |
Note 3 Intangible Assets
The carrying amounts of indefinite-lived intangible assets by segment not subject to
amortization were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RJR |
|
|
|
|
|
|
|
|
|
|
|
|
Tobacco |
|
|
Conwood |
|
|
All Other |
|
|
Consolidated |
|
Trademarks |
|
$ |
1,653 |
|
|
$ |
1,222 |
|
|
$ |
155 |
|
|
$ |
3,030 |
|
Other intangible assets |
|
|
55 |
|
|
|
|
|
|
|
48 |
|
|
|
103 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of December 31, 2008 |
|
$ |
1,708 |
|
|
$ |
1,222 |
|
|
$ |
203 |
|
|
$ |
3,133 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trademarks |
|
$ |
1,277 |
|
|
$ |
1,152 |
|
|
$ |
155 |
|
|
$ |
2,584 |
|
Other intangible assets |
|
|
99 |
|
|
|
|
|
|
|
4 |
|
|
|
103 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of September 30, 2009 |
|
$ |
1,376 |
|
|
$ |
1,152 |
|
|
$ |
159 |
|
|
$ |
2,687 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
10
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Concurrent with the transfer of the management of tobacco products sold to certain U.S.
territories, U.S. duty-free shops and U.S. overseas military bases, from R. J. Reynolds Global
Products, Inc., referred to as GPI, to RJR Tobacco on January 1, 2009, a $44 million
indefinite-lived intangible asset was transferred from All Other to RJR Tobacco.
During the first quarter of 2009, President Obama signed into law an increase of $0.62 in the
federal excise tax per pack of cigarettes as well as significant tax increases on other tobacco
products, to fund expansion of the State Childrens Health Insurance Program, referred to as the
SCHIP. The tax increases were effective April 1, 2009.
The increase in federal excise tax was expected to adversely impact the net sales of RAIs
operating subsidiaries. This event was considered a triggering event and required the testing for
impairment of the carrying value of trademarks and goodwill during the first quarter of 2009. As a
result of this testing, RJR Tobacco recorded a trademark impairment charge of $377 million, and
Conwood recorded a trademark impairment charge of $76 million in the first quarter of 2009. These
charges were based on the excess of certain brands carrying values over their estimated fair
values. The analysis of the fair value of trademarks was based on estimates of fair value on an
income approach using a discounted cash flow valuation model under a relief from royalty
methodology. The relief from royalty model included the estimates of the royalty rate that a market
participant might assume, projected revenues and judgment regarding the 10.50% discount rate
applied to those estimated cash flows. The determination of the discount rate was based on a cost
of equity model, using a risk-free rate, adjusted by a stock beta-adjusted risk premium and a size
premium.
The trademark impairment charge is reflected as a decrease in the carrying value of the
trademarks in the condensed consolidated balance sheet (unaudited) as of September 30, 2009, as a
trademark impairment charge in the condensed consolidated statement of income (unaudited) for the
nine months ended September 30, 2009, and had no impact on cash flows.
Details of finite-lived intangible assets subject to amortization as of September 30, 2009,
were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated |
|
|
|
|
|
|
Gross |
|
|
Amortization |
|
|
Net |
|
Contract manufacturing |
|
$ |
151 |
|
|
$ |
78 |
|
|
$ |
73 |
|
Trademarks |
|
|
95 |
|
|
|
60 |
|
|
|
35 |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
246 |
|
|
$ |
138 |
|
|
$ |
108 |
|
|
|
|
|
|
|
|
|
|
|
Pre-tax amortization expense for intangible assets was $7 million and $5 million for the
three months ended September 30, 2009 and 2008, respectively, and $22 million and $16 million for
the nine months ended September 30, 2009 and 2008, respectively. The estimated remaining
amortization associated with finite-lived intangible assets is expected to be expensed as follows:
|
|
|
|
|
Year |
|
Amount |
|
Remainder of 2009 |
|
$ |
6 |
|
2010 |
|
|
26 |
|
2011 |
|
|
23 |
|
2012 |
|
|
20 |
|
2013 |
|
|
16 |
|
Thereafter |
|
|
17 |
|
|
|
|
|
|
|
$ |
108 |
|
|
|
|
|
For the impairment testing of the goodwill of RAIs reporting units during the first
quarter of 2009, triggered by the federal excise tax increase, each reporting units estimated fair
value was compared with its carrying value. A reporting unit is an operating segment or one level
below an operating segment. The determination of estimated fair value of each reporting unit was
calculated primarily utilizing an income approach model, based on the present value of the
estimated future cash flows of the reporting unit assuming a discount rate. The determination of
the discount rate was based on a weighted average cost of capital and cost of equity, described
above as utilized in the
11
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
trademark valuation. Additionally, the aggregate estimated fair value of the reporting units,
determined with the use of the income approach model, was compared with RAIs market
capitalization. In considering RAIs market capitalization, an estimated premium to reflect the
fair value on a control basis was applied. The estimated fair value of each reporting unit,
determined utilizing the income approach and RAIs market capitalization, was greater than its
respective carrying value.
Note 4 Restructuring Charges
2008 Restructuring Charge
In 2008, RAI and RJR Tobacco announced changes in their organizational structures to
streamline non-core business processes and programs in order to allocate additional resources to
strategic growth initiatives. The reorganizations will result in the elimination of approximately
600 full-time jobs, expected to be substantially completed by December 31, 2009.
Under existing benefit plans, $83 million of severance-related cash benefits and $7 million of
non-cash pension-related benefits comprised a restructuring charge of $90 million in 2008. Of this
charge, $81 million was recorded in the RJR Tobacco segment. Of the cash portion of the charge,
$33 million was paid as of September 30, 2009. Accordingly, in the condensed consolidated balance
sheet (unaudited) as of September 30, 2009, $36 million was included in other current liabilities,
and $14 million was included in other noncurrent liabilities. The cash benefits are expected to be
substantially paid by December 31, 2010.
The component of the restructuring charge accrued and utilized was as follows:
|
|
|
|
|
|
|
Employee |
|
|
|
Severance |
|
|
|
and Benefits |
|
Original accrual |
|
$ |
91 |
|
Utilized in 2008 |
|
|
(12 |
) |
Adjusted in 2008 |
|
|
(1 |
) |
|
|
|
|
Balance as of December 31, 2008 |
|
|
78 |
|
Utilized in 2009 |
|
|
(28 |
) |
|
|
|
|
Balance as of September 30, 2009 |
|
$ |
50 |
|
|
|
|
|
Note 5 Income Per Share
On January 1, 2009, RAI adopted authoritative GAAP that address whether instruments granted in
share-based payment transactions are participating securities prior to vesting and, therefore, need
to be included in the earnings allocation in computing earnings per share. Unvested restricted
shares awarded under the 2007 and 2008 LTIP grants have been determined to be participating
securities because they have non-forfeitable dividend rights equivalent to common
shares. Accordingly, these restricted shares are included in the basic EPS calculation for the
third quarter and first nine months of 2009 and retrospectively in the basic EPS calculation for
the third quarter and first nine months of 2008.
12
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
The components of the calculation of income per share were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months |
|
|
For the Nine Months |
|
|
|
Ended September 30, |
|
|
Ended September 30, |
|
|
|
2009 |
|
|
2008 |
|
|
2009 |
|
|
2008 |
|
Net income |
|
$ |
362 |
|
|
$ |
211 |
|
|
$ |
747 |
|
|
$ |
1,080 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic weighted average shares, in thousands |
|
|
291,371 |
|
|
|
292,388 |
|
|
|
291,380 |
|
|
|
294,050 |
|
Effect of dilutive potential shares: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options |
|
|
130 |
|
|
|
190 |
|
|
|
137 |
|
|
|
209 |
|
Stock units |
|
|
419 |
|
|
|
|
|
|
|
224 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted weighted average shares, in thousands |
|
|
291,920 |
|
|
|
292,578 |
|
|
|
291,741 |
|
|
|
294,259 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 6 Investments
Short-term investments classified as available-for-sale were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2009 |
|
|
December 31, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Estimated |
|
|
|
|
|
|
Realized |
|
|
|
|
|
|
Estimated |
|
|
|
Cost |
|
|
Redemptions |
|
|
Fair Value |
|
|
Cost |
|
|
Loss |
|
|
Redemptions |
|
|
Fair Value |
|
Reserve Fund Primary Fund |
|
$ |
7 |
|
|
$ |
(4 |
) |
|
$ |
3 |
|
|
$ |
37 |
|
|
$ |
(1 |
) |
|
$ |
(29 |
) |
|
$ |
7 |
|
Reserve Fund International Liquidity Fund |
|
|
16 |
|
|
|
(13 |
) |
|
|
3 |
|
|
|
17 |
|
|
|
(1 |
) |
|
|
|
|
|
|
16 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
23 |
|
|
$ |
(17 |
) |
|
$ |
6 |
|
|
$ |
54 |
|
|
$ |
(2 |
) |
|
$ |
(29 |
) |
|
$ |
23 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-term investments classified as available-for-sale were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2009 |
|
|
December 31, 2008 |
|
|
|
|
|
|
|
|
|
|
|
Gross |
|
|
|
|
|
|
|
|
|
|
Gross |
|
|
Gross |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized |
|
|
Estimated |
|
|
|
|
|
|
Realized |
|
|
Unrealized |
|
|
Estimated |
|
|
|
Cost |
|
|
Redemptions |
|
|
(Loss) Gain |
|
|
Fair Value |
|
|
Cost |
|
|
Loss |
|
|
Loss |
|
|
Fair Value |
|
Auction rate securities corporate credit risk |
|
$ |
95 |
|
|
$ |
|
|
|
$ |
(72 |
) |
|
$ |
23 |
|
|
$ |
95 |
|
|
$ |
|
|
|
$ |
(51 |
) |
|
$ |
44 |
|
Auction rate securities financial insurance companies |
|
|
17 |
|
|
|
|
|
|
|
4 |
|
|
|
21 |
|
|
|
50 |
|
|
|
(33 |
) |
|
|
(2 |
) |
|
|
15 |
|
Mortgage-backed security |
|
|
37 |
|
|
|
(5 |
) |
|
|
(18 |
) |
|
|
14 |
|
|
|
37 |
|
|
|
|
|
|
|
(16 |
) |
|
|
21 |
|
Marketable equity security |
|
|
2 |
|
|
|
|
|
|
|
18 |
|
|
|
20 |
|
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
151 |
|
|
$ |
(5 |
) |
|
$ |
(68 |
) |
|
$ |
78 |
|
|
$ |
184 |
|
|
$ |
(33 |
) |
|
$ |
(69 |
) |
|
$ |
82 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RAI has five investments in auction rate securities linked to corporate credit risk, four
investments in auction rate securities related to financial insurance companies, one investment in
a mortgage-backed security and one investment in a marketable equity security. Investments
classified as available-for-sale were carried at fair value and included in other assets and
deferred charges, and unrealized gains and losses, net of tax, were reported in accumulated other
comprehensive loss in RAIs condensed consolidated balance sheet (unaudited) as of September 30,
2009. The funds associated with the auction rate securities will not be accessible until a
successful auction occurs or a buyer is found. The mortgage-backed security matures in March 2010.
RAI is in the process of evaluating its alternatives surrounding extending this investment beyond
2010.
RAI reviews these investments on a quarterly basis to determine if it is probable that RAI
will realize some portion of the unrealized loss and to determine the classification of the
impairment as temporary or other-than-temporary. Since the adoption of authoritative GAAP in June
2009, RAI recognizes the credit loss component of an other-than-temporary impairment of its debt
securities in earnings, and the noncredit component in other comprehensive loss for those
securities which RAI does not intend to sell and as to which it is more likely than not that RAI
will not be required to sell the securities prior to recovery.
13
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
In determining if the difference between amortized cost and estimated fair value of the
auction rate securities or the mortgage-backed security was deemed either temporary or
other-than-temporary impairment, RAI evaluated each type of long-term investment using a set of
criteria including decline in value, duration of the decline, period until anticipated recovery,
nature of investment, probability of recovery, financial condition and near-term prospects of the
issuer, RAIs intent and ability to retain the investment, attributes of the decline in value,
status with rating agencies, status of principal and interest payments and any other issues related
to the underlying securities. Additionally, RAI evaluated any credit loss within the fair market
valuation by comparing the net amortized cost of the securities to the discounted present value of
anticipated future cash flows.
RAI determined the change in the fair value of the investments in the auction rate securities
linked to corporate credit risk was temporary as of September 30, 2009, primarily based on
estimated cash flows of the investments, present and expected defaults of the underlying collateral
and RAIs ability and intent to hold such investments. RAI also determined the present value of
anticipated future cash flows exceeded the net amortized cost of the investment and therefore did
not have any credit loss to recognize. RAI believes the decline in the fair value of the
securities is related to present market conditions and that the investments will continue to be
carried at less than cost until economic conditions improve. RAI believes it is probable these
securities will eventually recover, and RAI has no intention of, and does not believe there will be
a requirement for, selling these securities in the foreseeable future.
In 2008, three of the four investments in auction rate securities related to financial
insurance companies were other-than-temporarily impaired. During the first nine months of 2009,
the fair value of those three investments increased above their amortized cost, generating
unrealized gains. The decline in the fair value of the remaining investment has been determined by
RAI to be temporary as of September 30, 2009, primarily based on estimated cash flows of this
security, near-term prospects and financial condition of the issuer and RAIs ability and intent to
hold such investment. RAI also determined the present value of anticipated future cash flows
exceeded the net amortized cost of the investment and therefore did not have any credit loss to
recognize. RAI believes the decline in the fair value of this security is related to present
market conditions and that this investment will continue to be carried at less than cost until
economic conditions improve. RAI believes it is probable this security will eventually recover,
and RAI has no intention of, and does not believe there will be a requirement for, selling any of
these securities in the foreseeable future.
RAI determined the change in the fair value of the investment of the mortgage-backed security,
classified above sub-prime at inception, was also temporary as of September 30, 2009, primarily
based on estimated cash flows of the security as well as the underlying collateral. RAI also
determined the present value of anticipated future cash flows exceeded the net amortized cost of
the investment and therefore did not have any credit loss to recognize. RAI believes the decline
in the fair value of the mortgage-backed security is related to present market conditions and that
this investment will continue to be carried at less than cost until economic conditions surrounding
the housing markets improve. RAI believes it is probable this security will recover as the lowering
of interest rates and the assistance of government-related funds will result in refinancing
opportunities. In addition, during the first nine months of 2009, RAI received $5 million in
principal payments on the mortgage-backed security. RAI has no intention of, and does not believe
there will be a requirement for, selling this security in the foreseeable future and has the
ability to allow financial markets to recover and ultimately realize the value of this investment.
14
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Note 7 Inventories
The major components of inventories were as follows:
|
|
|
|
|
|
|
|
|
|
|
September 30, 2009 |
|
|
December 31, 2008 |
|
Leaf tobacco |
|
$ |
875 |
|
|
$ |
993 |
|
Other raw materials |
|
|
61 |
|
|
|
60 |
|
Work in process |
|
|
80 |
|
|
|
58 |
|
Finished products |
|
|
204 |
|
|
|
145 |
|
Other |
|
|
38 |
|
|
|
26 |
|
|
|
|
|
|
|
|
Total |
|
|
1,258 |
|
|
|
1,282 |
|
Less LIFO allowance |
|
|
163 |
|
|
|
112 |
|
|
|
|
|
|
|
|
|
|
$ |
1,095 |
|
|
$ |
1,170 |
|
|
|
|
|
|
|
|
RJR Tobacco will perform its annual LIFO inventory valuation at December 31, 2009, as
interim periods represent an estimate of the expected annual valuation.
Note 8 Income Taxes
The provision for income taxes in the third quarter of 2009 was $217 million, for an effective
rate of 37.5%, compared with $123 million, for an effective rate of 36.8%, in the third quarter of
2008. The provision for income taxes in the first nine months of 2009 was $451 million, for an
effective rate of 37.6%, compared with $630 million, for an effective rate of 36.8%, in the first
nine months of 2008. The effective tax rate for the first nine months of 2009 was unfavorably
impacted by increases in unrecognized income tax benefits and increases in tax attributable to
accumulated and undistributed foreign earnings. The effective rate for the first nine months of
2008 was favorably impacted by a lower tax rate related to the gain on the termination of the
Reynolds-Gallaher International Sarl joint venture, but was offset by unfavorability related to tax
reserves and U.S. taxes recorded on foreign earnings.
The effective rate exceeds the federal statutory rate of 35% primarily due to the impact of
state taxes and certain nondeductible items, offset by the domestic production activities deduction
of the American Jobs Creation Act of 2004.
The gross accruals for unrecognized income tax benefits, including interest and penalties,
reflected in other noncurrent liabilities were $161 million and $159 million at September 30, 2009
and December 31, 2008, respectively. RAI accrues interest and penalties related to accruals for
income taxes and reflects these amounts in tax expense. The gross amount of interest accrued at
September 30, 2009 and December 31, 2008, was $53 million and $50 million, respectively. The gross
amount of penalties accrued was $12 million at September 30, 2009 and December 31, 2008.
Gross increases in unrecognized tax benefits related to tax positions were $7 million for the
nine months ended September 30, 2009, consisting of $5 million for current year tax positions and
$2 million for prior year tax positions.
Gross decreases in unrecognized tax benefits were $8 million for the nine months ended
September 30, 2009, consisting of $2 million for prior year tax positions, $3 million for
settlement with taxing authorities and $3 million for statute expirations.
As of September 30, 2009, $56 million of unrecognized tax benefits and $45 million of interest
and penalties, if recognized, would affect the effective tax rate.
Included in the provision for income taxes for the nine months ended September 30, 2009, was
$4 million of additional tax expense, including $3 million of interest expense, net of federal
benefit, and penalties associated with unrecognized tax benefits. Comparable amounts for the three
and nine months ended September 30, 2008, were $2
million and $11 million of additional tax expense, including $1 million and $3 million of
interest expense, net of federal benefit, and penalties, respectively.
15
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
RAI and its subsidiaries may be subject to income taxes in the United States, certain
foreign jurisdictions and multiple state jurisdictions. A number of years may elapse before a
particular matter, for which RAI has established an accrual, is audited and finally resolved. The
number of years with open tax audits varies depending on the tax jurisdiction. RAIs major taxing
jurisdictions and related open tax audits are discussed below.
RAI filed a federal consolidated income tax return for the years 2005 through 2008. The
statute of limitations remains open for the years 2006 through 2008. There are no IRS examinations
scheduled at this time for these open years.
In 2007, the State of North Carolina completed its examination of RJR Tobacco for years 2000
through 2002 and issued a total assessment of $37 million: $21 million related to tax, $8 million
related to interest and $8 million related to penalties. RJR Tobacco filed a protest in January
2008. RJR Tobacco will continue to work with North Carolina to resolve issues identified and
assessed for years 2000 through 2002. A complete resolution is not anticipated within the next 12
months. However, in the event a complete resolution of this audit is reached during the next 12
months, RJR Tobacco could recognize additional expense up to $13 million, inclusive of tax,
interest, net of federal benefit, and penalties.
It is expected that the amount of unrecognized tax benefits will change in the next 12 months.
Excluding the impact of North Carolinas assessment for years 2000 through 2002, RAI does not
expect the change to have a significant impact on its consolidated
results of operations, cash flows
or financial position.
Note 9 Borrowing Arrangements
On June 28, 2007, RAI entered into a Fifth Amended and Restated Credit Agreement, which, as
subsequently amended, provides for a five-year, $498 million revolving credit facility, which may
be increased up to $848 million at the discretion of the lenders upon the request of RAI.
Effective July 3, 2009, RAI entered into a Second Amendment to Credit Agreement, referred to
as the Second Amendment, amending RAIs credit facility. The Second Amendment amends the credit
facility by, among other things:
|
|
|
terminating the revolving loan commitment of Lehman Commercial Paper Inc., which filed
for protection under Chapter 11 of the federal Bankruptcy Code on October 5, 2008, and
thereby reducing the total revolving loan commitment under the credit facility from $550
million to $498 million; |
|
|
|
|
amending the definition of Lender Default and certain related definitions; |
|
|
|
|
granting RAI the right under certain circumstances to terminate the revolving loan
commitment of a Defaulting Lender, as defined in the credit facility, if RAI is unable to
replace such Defaulting Lender; and |
|
|
|
|
otherwise clarifying the rights and responsibilities of the parties to the credit
facility upon the occurrence of a Lender Default. |
Note 10 Financial Instruments
Fair Value of Debt
The estimated fair value of RAIs and RJRs outstanding long-term notes in the aggregate, was
$4.3 billion and $3.5 billion with an effective average annual interest rate of approximately 5.5%
and 5.7%, as of September 30, 2009 and December 31, 2008, respectively. The fair values are based
on available market quotes, credit spreads and discounted cash flows, as appropriate.
16
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Interest Rate Management
RAI and RJR use interest rate swaps to manage interest rate risk on a portion of their
respective debt obligations.
Interest rate swaps existed on the following principal amounts of debt:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed to Floating Rate |
|
|
Floating to Fixed Rate |
|
|
Fixed to Floating Rate |
|
|
|
September 30, 2009 |
|
|
September 30, 2009 |
|
|
December 31, 2008 |
|
RJR 7.25% notes, due 2012 |
|
$ |
44 |
|
|
$ |
44 |
|
|
$ |
57 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total swapped RJR debt |
|
|
44 |
|
|
|
44 |
|
|
|
57 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RAI 7.25% notes, due 2012 |
|
|
306 |
|
|
|
306 |
|
|
|
393 |
|
RAI 7.625% notes, due 2016 |
|
|
450 |
|
|
|
450 |
|
|
|
450 |
|
RAI 6.75% notes, due 2017 |
|
|
700 |
|
|
|
700 |
|
|
|
700 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total swapped RAI debt |
|
|
1,456 |
|
|
|
1,456 |
|
|
|
1,543 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total notional amount |
|
$ |
1,500 |
|
|
$ |
1,500 |
|
|
$ |
1,600 |
|
|
|
|
|
|
|
|
|
|
|
Historically, the interest rate swap agreements were derivative instruments that qualified for
hedge accounting. RAI and RJR assess at the inception of the hedge whether the hedging derivatives
are highly effective in offsetting changes in fair value of the hedged item. Ineffectiveness
results when changes in the market value of the hedged debt are not completely offset by changes in
the market value of the interest rate swap. There was no ineffectiveness recognized related to
derivative instruments during 2009 or 2008. As detailed below, at September 30, 2009, RAI and RJR
had no derivative instruments designated as hedges.
On January 6, 2009, the fair value of RAIs and RJRs fixed to floating interest rate swaps,
designated as hedges, was $258 million. RAI and RJR locked in the value of these swaps by entering
into offsetting floating to fixed interest rate swap agreements in the notional amount of $1.5
billion with maturity dates ranging from June 1, 2012 to June 15, 2017. The floating to fixed
interest rate swaps were entered into with the same financial institution that holds a notional
amount of $1.5 billion of fixed to floating interest rate swaps and have a legal right of offset.
The future cash flows, established as a result of entering into the January 6, 2009, floating to
fixed interest rate swaps, total $321 million, and will be amortized and effectively reduce net
interest costs over the remaining life of the notes. Concurrent with entering the floating to fixed
interest rate swap agreements on January 6, 2009, which were not designated as hedging instruments,
RAI and RJR removed the designation of fair value hedge from the fixed to floating interest rate
swaps.
On January 7, 2009, RAI and RJR terminated an interest rate swap agreement in the notional
amount of $100 million with a maturity date of June 1, 2012. The resulting gain of approximately
$12 million will be amortized to effectively reduce interest expense over the remaining life of the
notes.
As a result of these actions, RAI and RJR have economically decreased the fixed rate on $1.6
billion of debt to a fixed rate of interest of approximately 4.0%.
As of September 30, 2009, a summary of interest rate swaps outstanding was as follows:
|
|
|
|
|
|
|
Fixed to Floating |
|
Floating to Fixed |
Pay
|
|
Floating based on
one and six month
LIBOR
|
|
4.0% fixed
|
Receive
|
|
7.1% fixed
|
|
Floating based on
one and six month
LIBOR |
Weighted average maturity
|
|
6.22 years
|
|
6.22 years |
17
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Interest rate swaps are presented in the condensed consolidated balance sheets at fair value
as follows:
|
|
|
|
|
|
|
|
|
|
|
September 30, 2009 |
|
December 31, 2008 |
|
|
(Unaudited) |
|
|
|
|
Designated as hedging instrument: |
|
|
|
|
|
|
|
|
Other assets and deferred charges |
|
$ |
|
|
|
$ |
287 |
|
Long-term debt (less current maturities) |
|
|
|
|
|
|
(287 |
) |
|
|
|
|
|
|
|
|
|
Not designated as hedging instrument: |
|
|
|
|
|
|
|
|
Other assets and deferred charges |
|
|
256 |
|
|
|
|
|
Long-term debt (less current maturities) |
|
|
(244 |
) |
|
|
|
|
Other noncurrent liabilities |
|
|
(4 |
) |
|
|
|
|
Interest rate swaps impacted the condensed consolidated statements of income (unaudited) as
follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months |
|
For the Nine Months |
|
|
Ended September 30, |
|
Ended September 30, |
|
|
2009 |
|
2008 |
|
2009 |
|
2008 |
Interest and debt expense |
|
$ |
(12 |
) |
|
$ |
(11 |
) |
|
$ |
(36 |
) |
|
$ |
(31 |
) |
Other (income) expense, net |
|
|
(11 |
) |
|
|
|
|
|
|
(7 |
) |
|
|
|
|
Credit Risk
RAI and its subsidiaries minimize counterparty credit risk related to their financial
instruments by using major financial institutions.
Note 11 Commitments and Contingencies
Tobacco Litigation General
Introduction
Various legal proceedings or claims, including litigation claiming that cancer and other
diseases, as well as addiction, have resulted from the use of, or exposure to, RAIs operating
subsidiaries products, are pending or may be instituted against RJR Tobacco, the Conwood companies
or their affiliates, including RAI and RJR, or indemnitees, including B&W. These pending legal
proceedings include claims relating to cigarette products manufactured by RJR Tobacco or certain of
its affiliates and indemnitees, as well as claims relating to smokeless tobacco products
manufactured by the Conwood companies. A discussion of the legal proceedings relating to cigarette
products is set forth below under the heading Litigation Affecting the Cigarette Industry. All
of the references under that heading to tobacco-related litigation, smoking and health litigation
and other similar references are references to legal proceedings relating to cigarette products and
are not references to legal proceedings involving smokeless tobacco products, and case numbers
under that heading include only cases involving cigarette products. The legal proceedings relating
to the smokeless tobacco products manufactured by the Conwood companies are discussed separately
under the heading Smokeless Tobacco Litigation below.
In connection with the B&W business combination, RJR Tobacco has agreed to indemnify B&W and
its affiliates, including its indirect parent, British American Tobacco p.l.c., referred to as BAT,
against certain liabilities, costs and expenses incurred by B&W or its affiliates arising out of
the U.S. cigarette and tobacco business of B&W. As a result of this indemnity, RJR Tobacco has
assumed the defense of pending B&W-specific tobacco-related litigation, has paid the judgments and
costs related to certain pre-business combination tobacco-related litigation of B&W, and has posted
bonds on behalf of B&W, where necessary, in connection with cases decided since the B&W business
combination. In addition, pursuant to this indemnity, RJR Tobacco expensed less than $1 million
during each of the first nine months of 2009 and 2008 for funds to be reimbursed to BAT for costs
and expenses incurred arising out of certain tobacco-related litigation.
18
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Certain Terms and Phrases
Certain terms and phrases used in this disclosure may require some explanation. The term
judgment or final judgment refers to the final decision of the court resolving the dispute and
determining the rights and obligations of the parties. At the trial court level, for example, a
final judgment generally is entered by the court after a jury verdict and after post-verdict
motions have been decided. In most cases, the losing party can appeal a verdict only after a final
judgment has been entered by the trial court.
The term damages refers to the amount of money sought by a plaintiff in a complaint, or
awarded to a party by a jury or, in some cases, by a judge. Compensatory damages are awarded to
compensate the prevailing party for actual losses suffered, if liability is proved. In cases in
which there is a finding that a defendant has acted willfully, maliciously or fraudulently,
generally based on a higher burden of proof than is required for a finding of liability for
compensatory damages, a plaintiff also may be awarded punitive damages. Although damages may be
awarded at the trial court stage, a losing party generally may be protected from paying any damages
until all appellate avenues have been exhausted by posting a supersedeas bond. The amount of such a
bond is governed by the law of the relevant jurisdiction and generally is set at the amount of
damages plus some measure of statutory interest, modified at the discretion of the appropriate
court or subject to limits set by court or statute.
The term settlement refers to certain types of cases in which cigarette manufacturers,
including RJR Tobacco and B&W, have agreed to resolve disputes with certain plaintiffs without
resolving the case through trial. The principal terms of certain settlements entered into by RJR
Tobacco and B&W are explained below under Accounting for Tobacco-Related Litigation
Contingencies.
Theories of Recovery
The plaintiffs seek recovery on a variety of legal theories, including negligence, strict
liability in tort, design defect, special duty, voluntary undertaking, breach of warranty, failure
to warn, fraud, misrepresentation, unfair trade practices, conspiracy, unjust enrichment, medical
monitoring, public nuisance and violations of state and federal antitrust laws. In certain of these
cases, the plaintiffs claim that cigarette smoking exacerbated injuries caused by exposure to
asbestos.
The plaintiffs seek various forms of relief, including compensatory and punitive damages,
treble or multiple damages and statutory damages and penalties, creation of medical monitoring and
smoking cessation funds, disgorgement of profits, and injunctive and other equitable relief.
Although alleged damages often are not determinable from a complaint, and the law governing the
pleading and calculation of damages varies from state to state and jurisdiction to jurisdiction,
compensatory and punitive damages have been specifically pleaded in a number of cases, sometimes in
amounts ranging into the hundreds of millions and even billions of dollars.
Defenses
The defenses raised by RJR Tobacco, the Conwood companies and their affiliates and indemnitees
include, where applicable and otherwise appropriate, preemption by the Federal Cigarette Labeling
and Advertising Act of some or all claims arising after 1969, or by the Comprehensive Smokeless
Tobacco Health Education Act for claims arising after 1986, the lack of any defect in the product,
assumption of the risk, contributory or comparative fault, lack of proximate cause, remoteness,
lack of standing and statutes of limitations or repose. RAI and RJR have asserted additional
defenses, including jurisdictional defenses, in many of the cases in which they are named.
Accounting for Tobacco-Related Litigation Contingencies
In accordance with GAAP, RAI and its subsidiaries, including RJR Tobacco and the Conwood
companies, as applicable, record any loss concerning litigation at such time as an unfavorable
outcome becomes probable and the amount can be reasonably estimated. For the reasons set forth
below, RAIs management continues to conclude that the loss of any particular pending smoking and
health tobacco litigation claim against RJR Tobacco or its affiliates or indemnitees, or the loss
of any particular claim concerning the use of smokeless tobacco against the Conwood companies, when
viewed on an individual basis, is not probable.
RJR Tobacco and its affiliates believe that they have valid defenses to the smoking and health
tobacco litigation claims against them, as well as valid bases for appeal of adverse verdicts
against them. RAI, RJR Tobacco and their affiliates and indemnitees have, through their counsel,
filed pleadings and memoranda in pending smoking and
19
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
health tobacco litigation that set forth and discuss a number of grounds and defenses that
they and their counsel believe have a valid basis in law and fact. RJR Tobacco and its affiliates
and indemnitees continue to win the majority of smoking and health tobacco litigation claims that
reach trial, and a very high percentage of the tobacco-related litigation claims brought against
them continue to be dismissed at or before trial. Based on their experience in the smoking and
health tobacco litigation against them and the strength of the defenses available to them in such
litigation, RJR Tobacco and its affiliates believe that their successful defense of smoking and
health tobacco litigation in the past will continue in the future.
No liability for pending smoking and health tobacco litigation was recorded in RAIs
consolidated balance sheet (unaudited) as of September 30, 2009. However, as of September 30, 2009,
RJR Tobacco had an accrual for $2 million related to non-smoking and health litigation, and RJR,
and its subsidiary RJR Tobacco, had liabilities totaling $94 million that were recorded in 1999 in
connection with certain non-smoking and health indemnification claims asserted by JTI relating to
certain activities of Northern Brands International, Inc., a now inactive, indirect subsidiary of
RAI formerly involved in the international tobacco business, referred to as Northern Brands. For
further information on Northern Brands and related litigation and the indemnification claims of
JTI, see Litigation Affecting the Cigarette Industry Other Litigation and Developments and
Other Contingencies below.
Generally, RJR Tobacco and its affiliates and indemnitees have not settled, and currently RJR
Tobacco and its affiliates do not intend to settle, any smoking and health tobacco litigation
claims. It is the policy of RJR Tobacco and its affiliates to vigorously defend all tobacco-related
litigation claims.
The only smoking and health tobacco litigation claims settled by RJR Tobacco and B&W involved:
|
|
|
the State Settlement Agreements and the funding by various tobacco companies of a $5.2
billion trust fund contemplated by the MSA to benefit tobacco growers; and |
|
|
|
|
the original Broin flight attendant case discussed below under Litigation Affecting
the Cigarette Industry Class-Action Suits. |
The circumstances surrounding the State Settlement Agreements and the funding of a trust fund
to benefit the tobacco growers are readily distinguishable from the current categories of smoking
and health cases involving RJR Tobacco or its affiliates and indemnitees. The claims underlying the
State Settlement Agreements were brought on behalf of the states to recover funds paid for
health-care and medical and other assistance to state citizens suffering from diseases and
conditions allegedly related to tobacco use. The State Settlement Agreements settled all the
health-care cost recovery actions brought by, or on behalf of, the settling jurisdictions and
contain releases of various additional present and future claims. In accordance with the MSA,
various tobacco companies agreed to fund a $5.2 billion trust fund to be used to address the
possible adverse economic impact of the MSA on tobacco growers. A discussion of the State
Settlement Agreements, and a table depicting the related payment schedule, is set forth below under
Litigation Affecting the Cigarette Industry Health-Care Cost Recovery Cases State
Settlement Agreements.
The states were a unique set of plaintiffs and are not involved in any of the smoking and
health cases remaining against RJR Tobacco or its affiliates and indemnitees. Although RJR Tobacco
and certain of its affiliates and indemnitees continue to be defendants in health-care cost
recovery cases similar in theory to the state cases but involving other plaintiffs, such as
hospitals, Native American tribes and foreign governments, the vast majority of such cases have
been dismissed on legal grounds. RJR Tobacco and its affiliates, including RAI, believe that the
same legal principles that have resulted in dismissal of health-care cost recovery cases either at
the trial court level or on appeal should compel dismissal of the similar pending cases.
The pending U.S. Department of Justice case brought against various industry members,
including RJR Tobacco and B&W, discussed below under Litigation Affecting the Cigarette
Industry Health-Care Cost Recovery Cases, also can be distinguished from the circumstances
surrounding the State Settlement Agreements. Under its Medical Care Recovery Act and Medicare
Secondary Payer Act claims, the federal government made arguments similar to the states and sought
to recover federal funds expended in providing health care to smokers who have developed diseases
and injuries alleged to be smoking-related. These claims were dismissed, and the only claim
remaining in the case involves alleged violations of civil provisions of the federal Racketeer
Influenced and Corrupt
20
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Organizations Act, referred to as RICO. A comprehensive discussion of this case is set forth
below under Litigation Affecting the Cigarette Industry Health-Care Cost Recovery Cases.
As with claims that were resolved by the State Settlement Agreements, the other cases settled
by RJR Tobacco can be distinguished from existing cases pending against RJR Tobacco and its
affiliates and indemnitees. The original Broin case, discussed below under Litigation Affecting
the Cigarette Industry Class-Action Suits, was settled in the middle of trial during
negotiations concerning a possible nation-wide settlement of claims similar to those underlying the
State Settlement Agreements.
Likewise, RJR Tobacco and B&W separately settled the antitrust case DeLoach v. Philip Morris
Cos., Inc., which was brought by a unique class of plaintiffs: a class of all tobacco growers and
tobacco allotment holders. Despite valid legal defenses, RJR Tobacco and B&W separately settled
this case to avoid a long and contentious trial with the tobacco growers. The DeLoach case and the
antitrust cases currently pending against RJR Tobacco and B&W involve different types of plaintiffs
and different theories of recovery under the antitrust laws than other cases pending against RJR
Tobacco and its affiliates and indemnitees.
Finally, as discussed under Litigation Affecting the Cigarette Industry State
Settlement Agreements Enforcement and Validity, RJR Tobacco and B&W each has settled certain
cases brought by states concerning the enforcement of State Settlement Agreements. Despite valid
legal defenses, these cases were settled to avoid further contentious litigation with the states
involved. These enforcement actions involve alleged breaches of State Settlement Agreements based
on specific actions taken by particular defendants. Accordingly, any future enforcement actions
involving State Settlement Agreements will be reviewed by RJR Tobacco on the merits and should not
be affected by the settlement of prior enforcement cases.
The Conwood companies also believe that they have valid defenses to the smokeless tobacco
litigation against them. The Conwood companies have asserted and will continue to assert some or
all of these defenses in each case at the time and in the manner deemed appropriate by the Conwood
companies and their counsel. No verdict or judgment has been returned or entered against the
Conwood companies on any claim for personal injuries allegedly resulting from the use of smokeless
tobacco. The Conwood companies intend to defend vigorously all smokeless tobacco litigation claims
asserted against them. No liability for pending smokeless tobacco litigation was recorded in RAIs
consolidated balance sheet (unaudited) as of September 30, 2009.
Cautionary Statement
Even though RAIs management continues to conclude that the loss of any particular pending
smoking and health tobacco litigation claim against RJR Tobacco or its affiliates or indemnitees,
or the loss of any particular case concerning the use of smokeless tobacco against the Conwood
companies, when viewed on an individual basis, is not probable, the possibility of material losses
related to such litigation is more than remote. Litigation is subject to many uncertainties, and
generally it is not possible to predict the outcome of any particular litigation pending against
RJR Tobacco, the Conwood companies or their affiliates or indemnitees, or to reasonably estimate
the amount or range of any possible loss.
Although RJR Tobacco believes that it has valid bases for appeals of adverse verdicts in its
pending cases, and RJR Tobacco and RAI believe they have valid defenses to all actions, and intend
to defend all actions vigorously, it is possible that there could be further adverse developments
in pending cases, and that additional cases could be decided unfavorably against RAI, RJR Tobacco
or their affiliates or indemnitees. Determinations of liability or adverse rulings in such cases or
in similar cases involving other cigarette manufacturers as defendants, even if such judgments are
not final, could materially adversely affect the litigation against RJR Tobacco or its affiliates
or indemnitees and could encourage the commencement of additional tobacco-related litigation. In
addition, a number of political, legislative, regulatory and other developments relating to the
tobacco industry and cigarette smoking have received wide media attention. These developments may
negatively affect the outcomes of tobacco-related legal actions and encourage the commencement of
additional similar litigation.
Although it is impossible to predict the outcome of such events on pending litigation and the
rate new lawsuits are filed against RJR Tobacco or its affiliates or indemnitees, a significant
increase in litigation or in adverse outcomes for tobacco defendants, or difficulties in obtaining
the bonding required to stay execution of judgments on appeal,
21
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
could have a material adverse effect on any or all of these entities. Moreover,
notwithstanding the quality of defenses available to it and its affiliates and indemnitees in
litigation matters, it is possible that RAIs results of operations, cash flows or financial
position could be materially adversely affected by the ultimate outcome of certain pending
litigation matters against RJR Tobacco or its affiliates or indemnitees.
Similarly, smokeless tobacco litigation is subject to many uncertainties. Notwithstanding the
quality of defenses available to the Conwood companies, it is possible that RAIs results of
operations, cash flows or financial position could be materially adversely affected by the ultimate
outcome of certain pending litigation matters against the Conwood companies.
Litigation Affecting the Cigarette Industry
Overview
Introduction. In connection with the B&W business combination, RJR Tobacco agreed to
indemnify B&W and its affiliates against, among other things, certain litigation liabilities, costs
and expenses incurred by B&W or its affiliates arising out of the U.S. cigarette and tobacco
business of B&W. Accordingly, the cases discussed below include cases brought solely against RJR
Tobacco and its affiliates, including RAI and RJR; cases brought against both RJR Tobacco, its
affiliates and B&W; and cases brought solely against B&W and assumed by RJR Tobacco in the B&W
business combination.
During the third quarter of 2009, 19 tobacco-related cases were served against RJR Tobacco or
its affiliates or indemnitees. On September 30, 2009, there were 4,163 cases, including 654
individual smoker cases pending in West Virginia state court as a consolidated action and 3,323
Engle Progeny Cases, involving approximately 8,740 individual plaintiffs, pending in the United
States against RJR Tobacco or its affiliates or indemnitees, as compared with 3,207 total cases on
September 30, 2008, pending in the United States against RJR Tobacco or its affiliates or
indemnitees.
As of October 9, 2009, 211 tobacco-related cases were pending against RJR Tobacco or its
affiliates or indemnitees: 201 in the United States; one in Puerto Rico; eight in Canada; and one
in Israel. Of the 201 total U.S. cases, 24 cases are pending against B&W that are not also pending
against RJR Tobacco. The U.S. case number does not include the 2,596 Broin II or the 3,326 Engle
Progeny Cases, as discussed below, pending as of October 9, 2009.
The following table lists the number of U.S. tobacco-related cases by state that were pending
against RJR Tobacco or its affiliates or indemnitees as of October 9, 2009, exclusive of the Broin
II and Engle Progeny Cases:
|
|
|
|
|
|
|
Number of |
State |
|
U.S. Cases |
Florida |
|
|
25 |
|
New York |
|
|
22 |
|
Missouri |
|
|
20 |
|
Louisiana |
|
|
16 |
|
Maryland |
|
|
13 |
|
California |
|
|
12 |
|
Illinois |
|
|
9 |
|
Mississippi |
|
|
6 |
|
West Virginia |
|
|
6 |
* |
Georgia |
|
|
4 |
|
Connecticut |
|
|
4 |
|
Pennsylvania |
|
|
4 |
|
Alabama |
|
|
4 |
|
Ohio |
|
|
3 |
|
District of Columbia |
|
|
3 |
|
New Mexico |
|
|
3 |
|
Kentucky |
|
|
2 |
|
Delaware |
|
|
2 |
|
Washington |
|
|
2 |
|
22
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
|
|
|
|
|
|
|
Number of |
State |
|
U.S. Cases |
Kansas |
|
|
2 |
|
Minnesota |
|
|
2 |
|
North Carolina |
|
|
2 |
|
South Dakota |
|
|
2 |
|
Tennessee |
|
|
2 |
|
Vermont |
|
|
2 |
|
Wisconsin |
|
|
2 |
|
New Jersey |
|
|
2 |
|
Arkansas |
|
|
1 |
|
Maine |
|
|
1 |
|
Arizona |
|
|
1 |
|
Michigan |
|
|
1 |
|
Oregon |
|
|
1 |
|
South Carolina |
|
|
1 |
|
Alaska |
|
|
1 |
|
Colorado |
|
|
1 |
|
Hawaii |
|
|
1 |
|
Idaho |
|
|
1 |
|
Indiana |
|
|
1 |
|
Iowa |
|
|
1 |
|
Mariana Islands |
|
|
1 |
|
Massachusetts |
|
|
1 |
|
Montana |
|
|
1 |
|
Nebraska |
|
|
1 |
|
Nevada |
|
|
1 |
|
New Hampshire |
|
|
1 |
|
North Dakota |
|
|
1 |
|
Oklahoma |
|
|
1 |
|
Rhode Island |
|
|
1 |
|
Utah |
|
|
1 |
|
Virginia |
|
|
1 |
|
Wyoming |
|
|
1 |
|
Texas |
|
|
1 |
|
Total |
|
|
201 |
** |
|
|
|
* |
|
Includes as one case the 654 cases pending as a consolidated action In Re: Tobacco LITIGATION Individual
Personal Injury Cases, described below. |
|
** |
|
Of the 201 pending U.S. cases, 27 are pending in federal court, 173 in state court and 1 in tribal court. |
The following table lists the categories of the U.S. tobacco-related cases pending against RJR
Tobacco or its affiliates or indemnitees as of October 9, 2009, compared with the number of cases
pending against RJR Tobacco, its affiliates or indemnitees as of July 10, 2009, as reported in
RAIs Quarterly Report on Form 10-Q for the fiscal quarter ended June 30, 2009, filed with the SEC
on July 31, 2009, and a cross-reference to the discussion of each case type.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change in |
|
|
|
|
|
|
|
|
Number of |
|
|
|
|
RJR Tobaccos |
|
Cases Since |
|
|
|
|
Case Numbers as |
|
July 10, 2009 |
|
Page |
Case Type |
|
of October 9, 2009 |
|
Increase/(Decrease) |
|
Reference |
Individual Smoking and Health |
|
|
106 |
|
|
|
(16 |
) |
|
|
28 |
|
West Virginia IPIC (Number of Plaintiffs)* |
|
|
1(654 |
) |
|
No Change(-33 |
) |
|
|
30 |
|
Engle Progeny (Number of Plaintiffs)** |
|
|
3,326 (8,741 |
) |
|
|
50(-38 |
) |
|
|
30 |
|
Broin II |
|
|
2,596 |
|
|
|
(21 |
) |
|
|
31 |
|
Class-Action |
|
|
15 |
|
|
|
(3 |
) |
|
|
32 |
|
Health-Care Cost Recovery |
|
|
4 |
|
|
No Change |
|
|
|
38 |
|
State Settlement Agreements-Enforcement and Validity |
|
|
59 |
|
|
No Change |
|
|
|
43 |
|
Antitrust |
|
|
2 |
|
|
No Change |
|
|
|
46 |
|
Other Litigation and Developments |
|
|
14 |
|
|
|
1 |
|
|
|
47 |
|
|
|
|
* |
|
The West Virginia Individual Personal Injury Cases have been separated
from the Individual Smoking and Health cases for reporting purposes. |
23
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
|
|
|
** |
|
The Engle Progeny Cases have been separated from the Individual
Smoking and Health cases for reporting purposes. Plaintiffs counsel
are attempting to include multiple plaintiffs in most of the cases
filed. The increase in the number of cases includes new cases served
and new cases filed by severed plaintiffs. |
Three cases against RJR Tobacco and B&W have attracted significant attention: the Florida
state court class-action case, Engle v. R. J. Reynolds Tobacco Co., the Louisiana state court
class-action case, Scott v. American Tobacco Co., and the federal RICO case brought by the U.S.
Department of Justice.
In 2000, a jury in Engle rendered a punitive damages verdict in favor of the Florida class
of approximately $145 billion against all defendants. On July 6, 2006, the Florida Supreme Court,
among other things, affirmed an appellate courts reversal of the punitive damages award,
decertified the class going forward, preserved several class-wide findings from the trial,
including that nicotine is addictive and cigarettes are defectively designed, and authorized class
members to avail themselves of these findings in individual lawsuits under certain conditions.
After subsequent motions were resolved, the Florida Supreme Court issued its mandate on January 11,
2007, thus beginning a one-year period in which former class members were permitted to file
individual lawsuits. On October 1, 2007, the U.S. Supreme Court denied the defendants petition for
writ of certiorari. As of October 9, 2009, RJR Tobacco had been served in 3,326 Engle Progeny Cases
in both state and federal courts in Florida. These cases include approximately 8,741 plaintiffs.
The number of cases will likely change due to individual plaintiffs being severed from
multi-plaintiff cases. In addition, as of October 9, 2009, RJR Tobacco was aware of 28 additional
cases that have been filed but not served (with 307 plaintiffs).
In 2004, a jury in Scott returned a verdict in favor of the Louisiana class for $591 million
to establish a state-wide smoking cessation program. In 2007, the Louisiana Court of Appeals upheld
class certification, significantly reduced the scope of recovery, and remanded the case for further
proceedings. The Louisiana and U.S. Supreme Courts denied the defendants applications for writ of
certiorari. In July 2008, the trial court entered an amended judgment in favor of the class for
approximately $263 million plus interest from June 30, 2004. On December 15, 2008, the trial court
signed the order for appeal of the amended judgment. Oral argument on the defendants appeal
occurred on September 1, 2009. A decision is pending.
In the U.S. Department of Justice case, brought in 1999 in the U.S. District Court for the
District of Columbia, the government sought, among other forms of relief, the disgorgement of
profits pursuant to the civil provisions of RICO. The U.S. Court of Appeals for the District of
Columbia ruled in 2005 that disgorgement is not an available remedy in the case. The bench trial
ended in June 2005, and the court, in August 2006, issued its ruling, among other things, finding
certain defendants, including RJR Tobacco and B&W, liable for the RICO claims, imposing no direct
financial penalties on the defendants, but ordering the defendants to make certain corrective
communications in a variety of media and enjoining the defendants from using certain brand
descriptors. Both sides appealed to the U.S. Court of Appeals for the District of Columbia. On May
22, 2009, the U.S. Court of Appeals largely affirmed the finding of liability against the tobacco
company defendants and remanded to the trial court for further proceedings. The defendants sought
rehearing and/or rehearing en banc, but that motion was denied by the appellate court on September
22, 2009. On September 28, 2009, the defendants filed a motion to stay issuance of the mandate
pending the filing and disposition of petitions for writ of certiorari to the U.S Supreme Court.
For a detailed description of these cases, see Class-Action Suits Engle Case,
Class-Action Suits Medical Monitoring and Smoking Cessation Cases and Health-Care Cost
Recovery Cases Department of Justice Case below.
In November 1998, the major U.S. cigarette manufacturers, including RJR Tobacco and B&W,
entered into the MSA with 46 U.S. states, Washington, D.C. and certain U.S. territories and
possessions. These cigarette manufacturers previously settled four other cases, brought on behalf
of Mississippi, Florida, Texas and Minnesota, by separate agreements with each state. These State
Settlement Agreements:
|
|
|
settled all health-care cost recovery actions brought by, or on behalf of, the settling
jurisdictions; |
|
|
|
|
released the major U.S. cigarette manufacturers from various additional present and
potential future claims; |
|
|
|
|
imposed future payment obligations in perpetuity on RJR Tobacco, B&W and other major
U.S. cigarette manufacturers; and |
|
|
|
|
placed significant restrictions on their ability to market and sell cigarettes and
smokeless tobacco products. |
Payments under the State Settlement Agreements are subject to various adjustments for, among
other things, the volume of cigarettes sold, relevant market share and inflation. See
Health-Care Cost Recovery Cases State
24
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Settlement Agreements below for a detailed discussion of the State Settlement Agreements,
including RAIs operating subsidiaries monetary obligations under these agreements. RJR Tobacco
records the allocation of settlement charges as products are shipped.
Scheduled Trials. Trial schedules are subject to change, and many cases are dismissed before
trial. It is likely, however, that RJR Tobacco and other cigarette manufacturers will face an
increased number of tobacco-related trials in 2009 compared to recent years. The following table
lists the non-Engle Progeny tobacco-related trials scheduled, as of October 9, 2009, for RJR
Tobacco or its affiliates and indemnitees through September 30, 2010. There are 62 Engle Progeny
cases against RJR Tobacco and/or B&W set for trial through September 30, 2010, but it is not known
how many of these cases will actually be tried.
|
|
|
|
|
|
|
Trial Date |
|
Case Name/Type |
|
Defendant(s) |
|
Jurisdiction |
November 18, 2009
|
|
Williams v. Brown and Williamson
Tobacco Corp.
[Individual]
|
|
RJR Tobacco, B&W
|
|
Circuit Court
City of St. Louis
(St. Louis, MO) |
|
|
|
|
|
|
|
February 1, 2010
|
|
In Re: Tobacco Litigation IPIC v. R.
J. Reynolds Tobacco Co.
[Individual]
|
|
RJR Tobacco, B&W
|
|
Circuit Court
Kanawha County
(Charleston, WV) |
|
|
|
|
|
|
|
March 5, 2010
|
|
Izzarelli v. R. J. Reynolds Tobacco Co.
[Individual]
|
|
RJR Tobacco
|
|
U.S. District Court
District of Connecticut
(Bridgeport, CT) |
|
|
|
|
|
|
|
May 18, 2010
|
|
Power v. John Crane-Houdaille, Inc.
[Individual]
|
|
RJR Tobacco, B&W
|
|
Circuit Court
Baltimore City
(Baltimore, MD) |
|
|
|
|
|
|
|
June 7, 2010
|
|
City of St. Louis v. American Tobacco Company
[Health Care Reimbursement]
|
|
RJR Tobacco, B&W
|
|
Circuit Court
City of St. Louis
(St. Louis, MO) |
|
|
|
|
|
|
|
July 5, 2010
|
|
Rials v. Philip Morris USA, Inc.
[Individual]
|
|
RJR Tobacco
|
|
U.S. District Court
Southern District
(Jackson, MS) |
|
|
|
|
|
|
|
July 19, 2010
|
|
Bell v. Brown & Williamson Tobacco Corp.
[Individual]
|
|
RJR Tobacco, B&W
|
|
Circuit Court
Jackson County
(Kansas City, MO) |
Trial Results. From January 1, 1999 through October 9, 2009, 60 smoking and health and
health-care cost recovery cases in which RJR Tobacco or B&W were defendants were tried. Verdicts in
favor of RJR Tobacco, B&W and, in some cases, RJR Tobacco, B&W and other defendants, were returned
in 39 cases, including four mistrials, tried in Florida (13), New York (4), Missouri (4), Tennessee
(3), Mississippi (2), California (2), West Virginia (2), Ohio (2), Connecticut (1), Louisiana (1),
New Jersey (1), Pennsylvania (1), South Carolina (1), Texas (1) and Washington (1).
Additionally, from January 1, 1999 through October 9, 2009, 27 smoking and health cases in
which RJR Tobacco, B&W, or their respective affiliates were not defendants were tried. Verdicts
were returned in favor of the defendants in 15 cases, including two mistrials, tried in Florida
(7), California (3), New Hampshire (1), New York (1), Pennsylvania (1), Rhode Island (1) and
Tennessee (1). Verdicts in favor of the plaintiffs were returned in 11 cases tried in California
(4), Florida (4), Oregon (2) and Illinois (1).
One smoking and health case (and no health-care cost recovery case) in which RJR Tobacco was a
defendant was tried in the third quarter of 2009. In Campbell v. R. J. Reynolds Tobacco Co., a
jury returned a verdict in favor of the plaintiff on August 19, 2009. For a detailed description
of the case, see Engle Progeny Cases below.
25
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
The following chart reflects the verdicts in the smoking and health cases that have been tried
and remain pending as of October 9, 2009, in which verdicts have been returned in favor of the
plaintiffs and against RJR Tobacco or B&W, or both.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cross-Reference to |
Date of Verdict |
|
Case Name/Type |
|
Jurisdiction |
|
Verdict |
|
Post-Trial Status |
June 11, 2002
|
|
Lukacs v. R. J. Reynolds
Tobacco Co.
[Engle class member]
|
|
Circuit Court, Miami-Dade
County
(Miami, FL)
|
|
$500,000 economic
damages, $24.5
million
non-economic
damages and $12.5
million loss of
consortium damages
against Philip
Morris, B&W and
Liggett, of which
B&W was assigned
22.5% of liability.
Final judgment was
entered in the
amount of $24.8
million plus
interest applicable
at the yearly
statutory rates
from July 11, 2002.
RJR Tobacco was
dismissed from the
case in May 2002,
prior to trial.
|
|
See Engle
Progeny Cases
below. |
|
|
|
|
|
|
|
|
|
December 18, 2003
|
|
Frankson v. Brown & Williamson
Tobacco Corp.
[Individual]
|
|
Supreme Court, Kings County
(Brooklyn, NY)
|
|
$350,000
compensatory
damages; 50% fault
assigned to B&W and
two industry
organizations; $20
million in punitive
damages, of which
$6 million was
assigned to B&W, $2
million to a
predecessor company
and $12 million to
two industry
organizations.
|
|
See Individual
Smoking and Health
Cases below. |
|
|
|
|
|
|
|
|
|
May 21, 2004
|
|
Scott v. American Tobacco Co.
[Class Action]
|
|
District Court, Orleans Parish
(New Orleans, LA)
|
|
$591 million
against RJR
Tobacco, B&W,
Philip Morris,
Lorillard, and the
Tobacco Institute,
jointly and
severally, for a
smoking cessation
program.
|
|
See
Class-Action Suits
Medical
Monitoring and
Smoking Cessation
Case below. |
26
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cross-Reference to |
Date of Verdict |
|
Case Name/Type |
|
Jurisdiction |
|
Verdict |
|
Post-Trial Status |
February 2, 2005
|
|
Smith v. Brown & Williamson Tobacco
Corp. [Individual]
|
|
Circuit Court, Jackson County
(Independence, MO)
|
|
$2 million in
compensatory
damages which was
reduced to $500,000
because of jurys
findings that the
plaintiff was 75%
at fault; $20
million in punitive
damages.
|
|
See Individual
Smoking and Health
Cases below. |
|
|
|
|
|
|
|
|
|
August 17, 2006
|
|
United States v. Philip Morris USA,
Inc. [Governmental Health-Care Cost
Recovery]
|
|
U.S. District Court, District
of Columbia (Washington, DC)
|
|
RJR Tobacco and B&W
were found liable
for civil RICO
claims; were
enjoined from using
certain brand
descriptors and
from making certain
misrepresentations;
and were ordered to
make corrective
communications on
five subjects,
including smoking
and health and
addiction, to
reimburse the U.S.
Department of
Justice appropriate
costs associated
with the lawsuit,
and to maintain
document web sites.
|
|
See Health-Care
Cost Recovery Cases
Department of
Justice Case
below. |
|
|
|
|
|
|
|
|
|
May 2, 2007
|
|
Whiteley v. R. J. Reynolds Tobacco
Co.
[Individual]
|
|
Superior Court, San
Francisco County,
(San Francisco, CA)
|
|
$2.46 million in
compensatory
damages jointly
against RJR Tobacco
and Philip Morris;
$250,000 punitive
damages against RJR
Tobacco only.
|
|
See Individual
Smoking and Health
Cases below. |
|
May 5, 2009
|
|
Sherman v. R. J. Reynolds Tobacco
Co.
[Engle Progeny]
|
|
Circuit Court, Broward County,
(Ft. Lauderdale, FL)
|
|
$1.5 million in
actual damages, 50%
of fault assigned
to RJR Tobacco
which reduced the
award to $775,000.
No punitive damages
awarded.
|
|
See Engle
Progeny Cases
below. |
27
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cross-Reference to |
Date of Verdict |
|
Case Name/Type |
|
Jurisdiction |
|
Verdict |
|
Post-Trial Status |
May 20, 2009
|
|
Brown v. R. J. Reynolds Tobacco Co.
[Engle Progeny]
|
|
Circuit Court, Broward County,
(Ft. Lauderdale, FL)
|
|
$1.2 million in
actual damages; 50%
of fault assigned
to RJR Tobacco
which reduced the
award to $600,000.
No punitive damages
awarded.
|
|
See Engle
Progeny Cases
below. |
|
|
|
|
|
|
|
|
|
May 29, 2009
|
|
Martin v. R. J. Reynolds Tobacco Co.
[Engle Progeny]
|
|
Circuit Court, Escambia County,
(Pensacola, FL)
|
|
$5 million in
actual damages, 66%
of fault assigned
to RJR Tobacco
which reduced the
award to $3.3
million, $25
million in punitive
damages
|
|
See Engle
Progeny Cases
below. |
|
|
|
|
|
|
|
|
|
August 19, 2009
|
|
Campbell v. R. J. Reynolds Tobacco
Co.
[Engle Progeny]
|
|
Circuit Court,
Escambia County,
(Pensacola, FL)
|
|
$7.8 million in
compensatory
damages; 39% of
fault assigned to
RJR Tobacco which
reduced the award
to $3.04 million
|
|
See Engle
Progeny Cases
below. |
Individual Smoking and Health Cases
As of October 9, 2009, 106 individual cases were pending in the United States against RJR
Tobacco, B&W, as its indemnitee, or both. This category of cases includes smoking and health cases
alleging personal injury brought by or
on behalf of individual plaintiffs, but does not include the Broin II, Engle Progeny or West
Virginia IPIC Cases discussed below. A total of 103 of the individual cases are brought by or on
behalf of individual smokers or their survivors, while the remaining three cases are brought by or
on behalf of individuals or their survivors alleging personal injury as a result of exposure to
ETS.
Below is a description of the individual smoking and health cases against RJR Tobacco or B&W,
or both, which went to trial or were decided during the period from January 1, 2009 to September
30, 2009, or remained on appeal as of September 30, 2009.
In Whiteley v. R. J. Reynolds Tobacco Co., the retrial of Whiteley v. Raybestos-Manhattan, a
case filed in April 1999 in Superior Court, San Francisco County, California and originally tried
in 2000, the jury awarded the plaintiff $2.46 million in compensatory damages jointly against RJR
Tobacco and Philip Morris, in May 2007, and returned a punitive damages verdict award of $250,000
against RJR Tobacco. RJR Tobaccos motion for judgment notwithstanding the verdict or, in the
alternative, for a new trial was denied on September 5, 2007. RJR Tobacco appealed. RJR Tobacco
deposited with the court approximately $2.6 million in U.S. Treasury bills in lieu of a supersedeas
bond to stay enforcement of the judgment pending appeal. On October 14, 2009, the California Court
of Appeal affirmed the final judgment against RJR Tobacco. The defendants petition for rehearing
is due on October 29, 2009.
On August 15, 2003, a jury returned a verdict in favor of B&W in Eiser v. Brown & Williamson
Tobacco Corp., a case filed in March 1999 in the Court of Common Pleas, Philadelphia County,
Pennsylvania. The plaintiff, Lois Eiser, sought compensatory and punitive damages in an amount in
excess of $50,000, together with interest, costs and attorneys fees in this wrongful death action
against B&W. On January 19, 2006, the Superior Court of Pennsylvania affirmed the verdict. On
September 22, 2006, the Pennsylvania Supreme Court granted the plaintiffs petition to appeal, and
on December 28, 2007, remanded the case to the Superior Court for further review of certain issues.
Briefing to the Superior Court is complete. A decision is pending.
28
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
On December 18, 2003, in Frankson v. Brown & Williamson Tobacco Corp., a case filed in August
2000 in Supreme Court, Kings County, New York, a jury awarded $350,000 in compensatory damages
against B&W and two former tobacco industry organizations, the Tobacco Institute and the Council
for Tobacco Research, in an action brought against the major U.S. cigarette manufacturers,
including RJR Tobacco, who was dismissed prior to trial, and B&W, seeking $270 million in
compensatory damages, unspecified punitive damages, attorneys fees, costs and disbursements. Other
manufacturers were dismissed before trial. The plaintiff, Gladys Frankson, alleged that Mr.
Frankson became addicted to nicotine, was unable to cease smoking, developed lung cancer and died
as a result. The defendants as a group and the deceased smoker were each found to be 50% at fault.
On January 8, 2004, the jury awarded $20 million in punitive damages, assigning $6 million to B&W,
$2 million to American Tobacco, a predecessor company to B&W, and $6 million to each of the Council
for Tobacco Research and the Tobacco Institute. On June 22, 2004, the trial judge granted a new
trial unless the parties consented to an increase in compensatory damages to $500,000 and a
decrease in punitive damages to $5 million, of which $4 million would be assigned to B&W. On
January 21, 2005, the plaintiff stipulated to the reduction in punitive damages.
Judgment was entered in favor of the plaintiffs for $175,000 in compensatory damages, the
original jury award reduced by 50%, and $5 million in punitive damages, the amount to which the
plaintiff stipulated. On June 26, 2007, final judgment was entered against the defendants in the
amount of approximately $6.8 million, including interest and costs. The defendants filed a notice
of appeal to the Appellate Division, New York Supreme Court, Second Department on July 3, 2007.
Pursuant to its agreement to indemnify B&W, RJR Tobacco posted a supersedeas bond in the amount of
$8.018 million on July 5, 2007. On September 29, 2009, the New York Supreme Court, Appellate
Division, affirmed the compensatory damages award, set aside the punitive damages verdict and
remanded the case to the Kings County Supreme Court for a new trial on punitive damages.
On February 1, 2005, a jury returned a split verdict in Smith v. Brown & Williamson Tobacco
Corp., a case filed in May 2003 in Circuit Court, Jackson County, Missouri, finding in favor of B&W
on two counts, fraudulent concealment and conspiracy, and finding in favor of the plaintiff on
negligence, which incorporates failure to warn and product defect claims. The plaintiff, Lincoln
Smith, claimed that the defendants tobacco products caused Mrs. Smiths death from lung cancer and
sought an unspecified amount of compensatory and punitive damages. The plaintiff was awarded $2
million in compensatory damages and $20 million in punitive damages; however, the jury found the
plaintiff to be 75% at fault, and B&W 25% at fault, and thus the compensatory award was reduced to
$500,000. B&W appealed to the Missouri Court of Appeals and on July 31, 2007, the court affirmed
the compensatory damages and ordered a new trial on punitive damages. On December 16, 2008, the
Missouri Court of Appeals issued an opinion that affirmed in part, reversed in part, and remanded
the case for further proceedings on the issue of punitive damages. Trial on the issue of punitive
damages began July 27, 2009. On July 29, 2009, RJR Tobacco, on behalf of B&W, paid the
compensatory damages verdict, plus interest, in the amount of approximately $700,000. On August
11, 2009, the jury returned a verdict for the plaintiffs finding B&W liable for damages for
aggravating circumstances, and on August 20, 2009, returned a verdict for the plaintiffs and
awarded the plaintiffs $1.5 million in punitive damages. On September 24, 2009, B&W filed a motion
for a new trial and a motion for judgment notwithstanding the verdict.
On March 18, 2005, in Rose v. Brown & Williamson Tobacco Corp., a case filed in December 1996
in New York Supreme Court, County of New York, a jury returned a verdict in favor of RJR Tobacco,
but returned a $3.42 million compensatory damages verdict against B&W and Philip Morris, of which
$1.71 million was assigned to B&W. A punitive damages verdict of $17 million against Philip Morris
only was returned by the jury on March 28, 2005. The action was brought against the major U.S.
cigarette manufacturers, including RJR Tobacco and B&W, seeking to recover $15 million in
compensatory damages and $35 million in punitive damages. The plaintiffs, Norma Rose and Leonard
Rose, allege that their use of the defendants products caused them to become addicted to nicotine
and develop lung cancer, chronic obstructive pulmonary disease and other smoking related conditions
and/or diseases. Oral argument on B&Ws appeal in the Appellate Division, New York Supreme Court,
First Department occurred on December 12, 2006. Pursuant to its agreement to indemnify B&W, RJR
Tobacco posted a supersedeas bond in the amount of $2.058 million on February 7, 2006. On April 10,
2008, the Appellate Division reversed the judgment in the plaintiffs favor and ordered that the
case be dismissed. On May 8, 2008, the plaintiffs filed a notice of appeal. On December 16, 2008,
the New York Court of Appeals affirmed the order. On August 17, 2009, the court discharged the
supersedeas bond posted by RJR Tobacco. On October 5, 2009, the U.S. Supreme Court denied the
plaintiffs petition for writ of certiorari.
29
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
West Virginia IPIC
In West Virginia, as of October 9, 2009, there were 694 cases (of which 654 are actions
against RJR Tobacco and/or B&W) pending as a consolidated action, In re: Tobacco Litigation
Individual Personal Injury Cases. These cases are proposed to be tried in Kanawha County Circuit
Court in a single proceeding. The West Virginia Supreme Court of Appeals ruled that the U.S.
Constitution does not preclude a trial in multiple phases in this case, and the U.S. Supreme Court
declined to review the issue. The current trial plan provides for a three-phase proceeding, with
certain elements of liability and entitlement to punitive damages being tried in Phase I. Phase II
would address the ratio between any compensatory and punitive damages awarded. Phase III would
address all remaining individual issues including medical and legal causation and compensatory
damages. Trial is scheduled to begin February 1, 2010.
Engle Progeny Cases
Pursuant to the Florida Supreme Courts July 6, 2006, ruling in Engle v. R. J. Reynolds
Tobacco Co., which decertified the class, former class members had one year from January 11, 2007,
in which to file individual lawsuits. In addition, some individuals who filed suit prior to January
11, 2007, and who claim they meet the conditions in Engle, also are attempting to avail themselves
of the Engle ruling. Lawsuits by individuals requesting the benefit of the Engle ruling, whether
filed before or after the January 11, 2007, mandate, are referred to as the Engle Progeny Cases. As
of October 9, 2009, RJR Tobacco had been served in 3,326 Engle Progeny Cases in both state and
federal courts in Florida. These cases include approximately 8,741 plaintiffs. The number of cases
will likely change due to individual plaintiffs being severed from multi-plaintiff cases. Many of
these cases are in active discovery, and several are expected to be tried in 2009. For further
information on the Engle case, see Class-Action Suits Engle Case, below.
Prior to the Florida Supreme Court ruling on July 6, 2006, RJR Tobacco and/or B&W were named
as a defendant(s) in several individual cases filed by members of the Engle class. One such case,
Lukacs v. Philip Morris, Inc., was filed in February 2001, and is pending in Circuit Court,
Miami-Dade County, Florida, against the major U.S. cigarette manufacturers seeking to recover an
unspecified amount in compensatory and punitive damages. The plaintiff, John Lukacs, alleged that
his use of the defendants brands caused his development of bladder, throat, oral cavity and tongue
cancer. RJR Tobacco was voluntarily dismissed on May 1, 2002. The case was tried against Philip
Morris, Liggett and B&W, and resulted in a verdict for the plaintiffs on June 11, 2002. The
Florida state court jury awarded the plaintiffs a total of $37.5 million in compensatory damages.
The jury assigned 22.5% fault to B&W, 72.5% fault to the other defendants and 5% fault to plaintiff
John Lukacs. On April 1, 2003, the Miami-Dade County Circuit Court granted in part the defendants
motion for remittitur and reduced the jurys award to plaintiff Yolanda Lukacs on the loss of
consortium claim from $12.5 million to $0.125 million, decreasing the total award to $25.125
million. On August 2, 2006, the plaintiff filed a motion for entry of partial judgment and notice
of jury trial on punitive damages. On January 2, 2007, the defendants asked the court to set aside
the jurys verdict for the plaintiff and to dismiss the plaintiffs punitive damages claim. On
January 3, 2007, the plaintiff filed a motion for entry of judgment, which the court deferred until
the U.S. Supreme Court completed its review of Engle and after further submissions by the parties.
The court granted the plaintiffs motion for entry of judgment on August 14, 2008 awarding the
plaintiff, Robin Lukacs, as personal representative of the estate of John and Yolanda Lukacs, the
sum of $24.8 million plus interest applicable at the yearly statutory rates from June 11, 2002. On
October 17, 2008, the plaintiff withdrew her request for punitive damages. On November 12, 2008,
the court entered final judgment. On December 1, 2008, the defendants filed a notice of appeal.
Briefing is underway. Pursuant to its agreement to indemnify B&W, RJR Tobacco posted a supersedeas
bond in the amount of approximately $15.2 million on March 19, 2009.
On March 24, 2009, in Gelep v. R. J. Reynolds Tobacco Co., a case filed in October 1998 in
Circuit Court, Pinellas County, Florida, a jury returned a verdict in favor of the defendants. The
plaintiff, Mary Gelep, alleged that use of the defendants products caused Mr. Gelep to develop
lung cancer, kidney cancer and other smoking related conditions and/or diseases which resulted in
his death. The plaintiff was seeking an unspecified amount of actual and punitive damages. The
plaintiffs motion for new trial or, in the alternative, a motion for judgment notwithstanding the
verdict was denied on April 30, 2009. On May 27, 2009, the plaintiff filed a notice of appeal to
the Second District Court of Appeal, but in September 2009, the plaintiff voluntarily dismissed the
appeal with prejudice and agreed to pay $50,000 in costs and attorneys fees to each of the
defendants.
30
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
On May 5, 2009, a jury returned a verdict in favor of the plaintiff in Sherman v. R. J.
Reynolds Tobacco Co., a case filed in September 2007 in the Circuit Court, Broward County, Florida.
The plaintiff, Melba Sherman, alleged that as a result of using the defendants products, the
decedent, John Sherman, developed lung cancer and died. The plaintiff sought actual damages and an
unspecified amount of punitive damages. On May 8, 2009, the jury awarded actual damages of $1.5
million and found the decedent to be 50% at fault. No punitive damages were awarded. The court
entered final judgment in the amount of $775,000 on June 8, 2009, which represents 50% of the
actual damages award. In June 2009, RJR Tobacco filed a notice of appeal to the Fourth District
Court of Appeal, and posted a supersedeas bond in the amount of approximately $900,000. On July 1,
2009, the plaintiff filed a notice of cross appeal of the final judgment.
On May 20, 2009, a jury returned a verdict in favor of the plaintiff in Brown v. R. J.
Reynolds Tobacco Co., a case filed in March 2007, in the Circuit Court, Broward County, Florida.
The plaintiff alleged that the decedent, Roger Brown, developed smoking related diseases, which
resulted in his death. The plaintiff sought actual damages and an unspecified amount of punitive
damages. On May 22, 2009, the jury returned a verdict that the decedent was 50% at fault for his
injuries and awarded actual damages of $1.2 million. No punitive damages were awarded. RJR
Tobaccos post-trial motions were denied on June 12, 2009. The same day, the court entered final
judgment in the amount of $600,000, which represents 50% of the actual damages award. On July 2,
2009, RJR Tobacco filed a notice of appeal to the Fourth District Court of Appeal and posted a
supersedeas bond in the amount of approximately $700,000.
On May 29, 2009, in Martin v. R. J. Reynolds Tobacco Co., a case filed in October 2007 in the
Circuit Court, Escambia County, Florida, a jury returned a verdict in favor of the plaintiff, found
RJR Tobacco to be 66% at fault for the decedents injuries, and awarded $5 million in actual
damages. The plaintiff alleged that as a result of Benny Martins use of the defendants tobacco
products, he developed lung cancer and other medical conditions and died. The plaintiff, Mathilda
Martin, sought an unspecified amount of actual and punitive damages. On June 1, 2009, the jury
returned a punitive damages award of $25 million. The trial court denied RJR Tobaccos various
post-trial motions, including a motion for a new trial based on defects in the punitive damages
phase, and alternatively, for remittitur of the punitive damages award. The court entered final
judgment on September 13, 2009, awarding the plaintiff the sum of $3.3 million in compensatory
damages and $25 million in punitive damages. RJR Tobacco filed a notice of appeal to the First
District Court of Appeal on September 18, 2009. On October 6, 2009, RJR Tobacco posted a
supersedeas bond in the amount of approximately $5 million. On October 8, 2009, the plaintiff
filed a notice of cross-appeal of the final judgment.
In Kaplan v. R. J. Reynolds Tobacco Co., a case filed in October 2007 in the Circuit Court,
Broward County, Florida, jury prequalification began on May 27, 2009. The plaintiff alleged that
as a result of her addiction to the defendants cigarettes, she suffers from chronic obstructive
pulmonary disease and other alleged smoking-related medical conditions and diseases. The plaintiff
is seeking an unspecified amount of actual and punitive damages. On June 1, 2009, the judge
declared a mistrial. The case has been rescheduled for trial during the first quarter trial docket
in 2010.
On August 19, 2009, in Campbell v. R. J. Reynolds Tobacco Co., a case filed in December 2007
in the Circuit Court, Escambia County, Florida, a jury returned a verdict in favor of the
plaintiff, found the decedent, Betty Campbell, to be 57% at fault, RJR Tobacco to be 39% at fault,
and PM USA and Liggett Group each to be 2% at fault for the decedents injuries, and awarded $7.8
million in compensatory damages. No punitive damages were awarded. The plaintiff alleged that as
a result of Mrs. Campbells addiction to cigarettes, she suffered and died from various smoking
related diseases, including chronic obstructive pulmonary disease. On September 13, 2009, the
court entered final judgment against RJR Tobacco in the amount of $3.04 million. The defendants
have filed various post-trial motions and are awaiting a decision. On September 30, 2009, RJR
Tobacco posted a supersedeas bond in the amount of approximately $3 million.
Broin II Cases
As of October 9, 2009, there were 2,596 lawsuits pending in Florida brought by individual
flight attendants for personal injury as a result of illness allegedly caused by exposure to ETS in
airplane cabins, referred to as the Broin II cases. In these lawsuits, filed pursuant to the terms
of the settlement of the Broin v. Philip Morris, Inc. class action, discussed below under
Class-Action Suits, each individual flight attendant will be required to prove that
31
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
he or she has a disease and that the individuals exposure to ETS in airplane cabins caused
the disease. Punitive damages are not available in these cases.
On October 5, 2000, the Broin court entered an order applicable to all Broin II cases that the
terms of the Broin settlement agreement do not require the individual Broin II plaintiffs to prove
the elements of strict liability, breach of warranty or negligence. Under this order, there is a
rebuttable presumption in the plaintiffs favor on those elements, and the plaintiffs bear the
burden of proving that their alleged adverse health effects actually were caused by exposure to ETS
in airplane cabins, that is, specific causation.
Class-Action Suits
Overview. As of October 9, 2009, 15 class-action cases, exclusive of antitrust class actions,
were pending in the United States against RJR Tobacco or its affiliates or indemnitees. In May
1996, in Castano v. American Tobacco Co., the Fifth Circuit Court of Appeals overturned the
certification of a nation-wide class of persons whose claims related to alleged addiction to
tobacco products. Since this ruling by the Fifth Circuit, most class-action suits have sought
certification of state-wide, rather than nation-wide, classes. Class-action suits based on claims
similar to those asserted in Castano or claims that class members are at a greater risk of injury
or injured by the use of tobacco or exposure to ETS are pending against RJR Tobacco and its
affiliates and indemnitees in state or federal courts in California, Illinois, Louisiana,
Minnesota, Missouri, West Virginia, Georgia and New Mexico. All pending class-action cases are
discussed below.
The pending class-actions against RJR Tobacco or its affiliates or indemnitees include eight
cases alleging that the use of the term lights constitutes unfair and deceptive trade practices
under state law or violates the federal RICO statute. Such suits are pending in state or federal
courts in Illinois, Minnesota, Missouri, and New Mexico and are discussed below under Lights
Cases.
Finally, certain third-party payers have filed health-care cost recovery actions in the form
of class-actions. These cases are discussed below under Health-Care Cost Recovery Cases.
Few smoker class-action complaints have been certified or, if certified, have survived on
appeal. Eighteen federal courts, including two courts of appeals, and most state courts that have
considered the issue have rejected class certification in such cases. Apart from the Castano case
discussed above, only two smoker class actions have been certified by a federal court In re
Simon (II) Litigation, and Schwab [McLaughlin] v. Philip Morris USA, Inc., discussed below under
Lights Cases, both of which were filed in the U.S. District Court for the Eastern District
of New York and ultimately decertified.
Medical Monitoring and Smoking Cessation Case. On November 5, 1998, in Scott v. American
Tobacco Co., a case filed in May 1996 in District Court, Orleans Parish, Louisiana, the trial court
certified a medical monitoring or smoking cessation class of Louisiana residents who were smokers
on or before May 24, 1996, in an action brought against the major U.S. cigarette manufacturers,
including RJR Tobacco and B&W, seeking to recover an unspecified amount of compensatory and
punitive damages. On July 28, 2003, the jury returned a verdict in favor of the defendants on the
plaintiffs claim for medical monitoring and found that cigarettes were not defectively designed.
However, the jury also made certain findings against the defendants on claims relating to fraud,
conspiracy, marketing to minors and smoking cessation. Notwithstanding these findings, this portion
of the trial did not determine liability as to any class member or class representative. What
primarily remained in the case was a class-wide claim that the defendants pay for a program to help
people stop smoking.
On May 21, 2004, the jury returned a verdict in the amount of $591 million on the classs
claim for a smoking cessation program. On September 29, 2004, the defendants posted a $50 million
bond, pursuant to legislation that limits the amount of the bond to $50 million collectively for
MSA signatories, and noticed their appeal. RJR Tobacco posted $25 million (the portions for RJR
Tobacco and B&W) towards the bond. On February 7, 2007, the Louisiana Court of Appeals upheld the
class certification and found the defendants responsible for funding smoking cessation for eligible
class members. The appellate court also ruled, however, that the defendants were not liable for any
post-1988 claims, rejected the award of prejudgment interest and struck eight of the 12 components
of the smoking cessation program. In particular, the appellate court ruled that no class member,
who began smoking after September 1, 1988, could receive any relief, and that only those smokers,
whose claims accrued on or before September 1, 1988, would be eligible for the smoking cessation
program. The plaintiffs have expressly represented to the trial court that none of their claims
accrued before 1988 and that the class claims did not accrue until around 1996, when the case was
filed. On March 2, 2007, the defendants application for rehearing and clarification was denied.
The defendants application for writ of certiorari with the Louisiana Supreme Court was denied on
January 7, 2008. The defendants petition for writ of certiorari with the U.S. Supreme Court was
denied on June 10, 2008.
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Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
On July 21, 2008, the trial court entered an amended judgment in the case. The court found
that the defendants are jointly and severally liable for funding the cost of a court-supervised
smoking cessation program and ordered the defendants to deposit approximately $263 million together
with interest from June 30, 2004, into a trust for the funding of the program. The court also
stated that it would favorably consider a motion to return to defendants a portion of unused funds
at the close of each program year in the event the monies allocated for the preceding program year
were not fully expended because of a reduction in class size or underutilization by the remaining
plaintiffs.
On December 15, 2008, the trial court judge signed an order granting the defendants an appeal
from the amended judgment. Oral argument in the Louisiana Court of Appeals occurred on September 1,
2009. A decision is pending.
Peoples v. Reynolds American Inc., filed November 17, 2008 in the U.S. District Court for the
Northern District of Georgia, is a purported RICO class action on behalf of Georgia smokers
claiming that RAI, Altria and Lorillard, and/or their affiliates wrongfully influenced the federal
governments National Cancer Institute not to recommend CT scans as a routine lung cancer screening
test for smokers. Plaintiffs claim that the NCIs failure to endorse the test leads insurers to
deny reimbursement and persuades doctors not to order the tests as a result. The plaintiffs seek a
variety of damages, including damages under RICO, punitive damages, attorneys fees, interest and
costs. On September 11, 2009, the court granted the defendants motion to dismiss for failure to
state a claim.
Jackson v. R. J. Reynolds Tobacco Co., filed in May 2009, in the U.S. District Court for the
Northern District of Georgia, is another purported RICO class action on behalf of Georgia smokers
claiming that the major U.S. cigarette manufacturers, including RJR Tobacco, influenced the
National Cancer Institute not to recommend CT scans as a routine lung cancer screening test for
smokers. The plaintiffs seek a variety of damages, including alleged contemplated damages under
RICO, punitive damages, attorneys fees, interest and costs. On July 13, 2009, the defendants
filed a motion to stay the case and, in the alternative, motion to dismiss. The defendants also
have filed a motion to dismiss for failure to state a claim.
Engle Case. Trial began in July 1998 in Engle v. R. J. Reynolds Tobacco Co., a case filed in
May 1994, in Circuit Court, Miami-Dade County, Florida, in which a class consisting of Florida
residents, or their survivors, alleges diseases or medical conditions caused by their alleged
addiction to cigarettes. The action was brought against the major U.S. cigarette manufacturers,
including RJR Tobacco and B&W, seeking actual damages and punitive damages in excess of $100
billion each and the creation of a medical fund to compensate individuals for future health-care
costs. On July 7, 1999, the jury found against RJR Tobacco, B&W and the other
cigarette-manufacturer defendants in the initial phase, which included common issues related to
certain elements of liability, general causation and a potential award of, or entitlement to,
punitive damages.
The second phase of the trial, which consisted of the claims of three of the named class
representatives, began on November 1, 1999. On April 7, 2000, the jury returned a verdict against
all the defendants. It awarded plaintiff Mary Farnan $2.85 million, the estate of plaintiff Angie
Della Vecchia $4.023 million and plaintiff Frank Amodeo $5.831 million.
The trial court also ordered the jury in the second phase of the trial to determine punitive
damages, if any, on a class-wide basis. On July 14, 2000, the jury returned a punitive damages
verdict in favor of the Florida class of approximately $145 billion against all the defendants,
with approximately $36.3 billion and $17.6 billion being assigned to RJR Tobacco and B&W,
respectively.
On November 6, 2000, the trial judge denied all post-trial motions and entered judgment. In
November 2000, RJR Tobacco and B&W posted appeal bonds in the amount of $100 million each and
initiated the appeals process. On May 21, 2003, Floridas Third District Court of Appeal reversed
the trial courts final judgment and remanded the case to the Miami-Dade County Circuit Court with
instructions to decertify the class. The class appealed, and the Florida Supreme Court accepted the
case on May 12, 2004.
On July 6, 2006, the court affirmed the dismissal of the punitive damages award and
decertified the class, on a going-forward basis. The court preserved a number of class-wide
findings from Phase I of the trial, including that cigarettes can cause certain diseases, that
nicotine is addictive and that defendants placed defective and unreasonably dangerous cigarettes on
the market, and authorized former class members to avail themselves of those findings under certain
conditions in individual lawsuits, provided they commence those lawsuits within one year of
33
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
the date the courts decision became final. The court specified that the class is confined to
those Florida citizen residents who suffered or died from smoking-related illnesses that
manifested themselves on or before November 21, 1996, and that were caused by an addiction to
cigarettes. In addition, the court reinstated the compensatory damages awards of $2.85 million to
Mary Farnan and $4.023 million to Angie Della Vecchia, but ruled that the claims of Frank Amodeo
were barred by the statute of limitations. Finally, the court reversed the Third District Court of
Appeals 2003 ruling that class counsels improper statements during trial required reversal.
On August 7, 2006, RJR Tobacco and the other defendants filed a rehearing motion arguing,
among other things, that the findings from the Engle trial are not sufficiently specific to serve
as the basis for further proceedings and that the Florida Supreme Courts decision denied the
defendants due process. On the same day, the plaintiffs also filed a rehearing motion arguing that
some smokers who became sick after November 21, 1996, and who are therefore not class members,
should nevertheless have the statute of limitations tolled since they may have refrained from
filing suit earlier in the mistaken belief that they were Engle class members. On December 21,
2006, the Florida Supreme Court withdrew its July 6, 2006, decision and issued a revised opinion,
in which it set aside the jurys findings of a conspiracy to misrepresent and clarified that the
Engle jurys finding on express warranty were preserved for use by eligible plaintiffs. The court
also denied the plaintiffs motion and confirmed that the class was limited to those individuals
who developed alleged smoking-related illnesses that manifested themselves on or before November
21, 1996. The court issued its mandate on January 11, 2007, which began the one-year period for
former class members to file individual lawsuits. As of October 9, 2009, 3,326 individual cases
were filed in Florida as a result of the Engle decision. These cases include approximately 8,741
plaintiffs. For further information on the individual cases, see Engle Progeny Cases above.
In the second quarter of 2007, RJR Tobaccos motions for discharge of RJR Tobaccos and B&Ws
civil supersedeas bonds related to the punitive damages award were granted, and RJR Tobacco
received the full amount of the $100 million cash collateral that it had posted. In the fourth
quarter of 2007, the defendants petition for writ of certiorari and petition for rehearing with
the U.S. Supreme Court were both denied. As a result, the verdicts in favor of Mary Farnan and
Angie Della Vecchia, mentioned above, became final. On February 8, 2008, RJR Tobacco paid
approximately $5.9 million relating to the compensatory damages verdicts mentioned above. In May
2008, the court granted the parties joint motion to sever moving plaintiffs claims. Plaintiffs
Raymond Lacey, Michael Matyi and Loren Lowery have filed new cases. Plaintiff Howard Engle filed a
stipulation for dismissal with prejudice, which the court ordered on July 2, 2008. On January 7,
2009, plaintiff Marilyn Calhouns motion for relief from judgment, which sought to extend the
deadline for filing Engle Progeny Cases beyond January 11, 2008, was denied by the Florida Supreme
Court.
Since the Florida Supreme Courts July 6, 2006 opinion, six Engle Progeny Cases have proceeded
to trial against RJR Tobacco or B&W. RJR Tobacco expects that other Engle Progeny Cases will
proceed to trial against RJR Tobacco and/or B&W in 2009. For further information on Engle Progeny
Cases, see Engle Progeny Cases above.
California Business and Professions Code Cases. On April 11, 2001, in Brown v. American
Tobacco Co., Inc., a case filed in June 1997 in Superior Court, San Diego County, California, the
court granted in part the plaintiffs motion for certification of a class composed of residents of
California who smoked at least one of the defendants cigarettes from June 10, 1993 through April
23, 2001, and who were exposed to the defendants marketing and advertising activities in
California. The action was brought against the major U.S. cigarette manufacturers, including RJR
Tobacco and B&W, seeking to recover restitution, disgorgement of profits and other equitable relief
under California Business and Professions Code § 17200 et seq. and § 17500 et seq. Certification
was granted as to the plaintiffs claims that the defendants violated § 17200 of the California
Business and Professions Code pertaining to unfair competition. The court, however, refused to
certify the class under the California Legal Remedies Act and on the plaintiffs common law claims.
March 7, 2005, the court granted the defendants motion to decertify the class. On September 5,
2006, the California Court of Appeal affirmed the judges order decertifying the class. On
November 1, 2006, the plaintiffs petition for review with the California Supreme Court was
granted. On May 18, 2009, California Supreme Court issued an opinion reversing the decision
issued by the trial court and affirmed by the California Court of Appeal that decertified the
class to the extent that it was based upon the conclusion that all class members were required to
demonstrate Proposition 64 standing, and remanded the case to the trial court for further
proceedings regarding whether the class representatives have, or can demonstrate, standing. The
defendants petition for rehearing was denied on August 12, 2009. The case was remanded to the
trial court for further proceedings.
Lights Cases. As noted above, lights class-action cases are pending against RJR Tobacco
or B&W in Illinois (3), Missouri (2), Minnesota (2), and New Mexico (1). The classes in these cases
generally seek to recover $50,000
34
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
to $75,000 per class member for compensatory and punitive damages, injunctive and other forms
of relief, and attorneys fees and costs from RJR Tobacco and/or B&W. In general, the plaintiffs
allege that RJR Tobacco or B&W made false and misleading claims that lights cigarettes were lower
in tar and nicotine and/or were less hazardous or less mutagenic than other cigarettes. The cases
typically are filed pursuant to state consumer protection and related statutes.
Many of these lights cases were stayed pending review of the Good v. Altria Group, Inc. case
by the U.S. Supreme Court. On December 15, 2008, the U.S. Supreme Court decided that these claims
are not preempted by the Federal Cigarette Labeling and Advertising Act or by the Federal Trade
Commissions, referred to as FTC, historic regulation of the industry. In light of this decision,
it is likely that one or more of the stayed cases will become active in 2009.
The seminal lights class-action case involves RJR Tobaccos competitor, Philip Morris, Inc.
Trial began in Price v. Philip Morris, Inc. in January 2003. In March 2003, the trial judge entered
judgment against Philip Morris in the amount of $7.1 billion in compensatory damages and $3 billion
in punitive damages to the State of Illinois. Based on Illinois law, the bond required to stay
execution of the judgment was set initially at $12 billion. Philip Morris pursued various avenues
of relief from the $12 billion bond requirement. In December 2005, the Illinois Supreme Court
reversed the lower courts decision and sent the case back to the trial court with instructions to
dismiss the case. In December 2006, the defendants motion to dismiss and for entry of final
judgment was granted, and the case was dismissed with prejudice the same day. The plaintiffs
motion to vacate and/or withhold judgment was dismissed by the court on August 30, 2007. On
December 18, 2008, the plaintiffs filed a petition for relief from judgment, stating that the U.S.
Supreme Courts decision in Good v. Altria Group, Inc. rejected the basis for the reversal. The
trial court granted the defendants motion to dismiss the plaintiffs petition for relief from
judgment on February 4, 2009. On March 3, 2009, the plaintiffs filed a notice of appeal to the
Illinois Appellate Court, Fifth Judicial District, requesting a reversal of the February 4, 2009
order and remand to the circuit court. Briefing is underway.
In Turner v. R. J. Reynolds Tobacco Co., a case filed in February 2000 in Circuit Court,
Madison County, Illinois, a judge certified a class on November 14, 2001. On June 6, 2003, RJR
Tobacco filed a motion to stay the case pending Philip Morriss appeal of the Price v. Philip
Morris Inc. case mentioned above, which the judge denied on July 11, 2003. On October 17, 2003, the
Illinois Fifth District Court of Appeals denied RJR Tobaccos emergency stay/supremacy order
request. On November 5, 2003, the Illinois Supreme Court granted RJR Tobaccos motion for a stay
pending the courts final appeal decision in Price. On October 11, 2007, the Illinois Fifth
District Court of Appeals dismissed RJR Tobaccos appeal of the denial of its emergency
stay/supremacy order request and remanded the case to the circuit court. There is currently no
activity in the case.
In Howard v. Brown & Williamson Tobacco Corp., another case filed in February 2000 in Circuit
Court, Madison County, Illinois, a judge certified a class on December 18, 2001. On June 6, 2003,
the trial judge issued an order staying all proceedings pending resolution of the Price v. Philip
Morris, Inc. case mentioned above. The plaintiffs appealed this stay order to the Illinois Fifth
District Court of Appeals, which affirmed the Circuit Courts stay order on August 19, 2005. There
is currently no activity in the case.
A lights class-action case is pending against each of RJR Tobacco and B&W in Missouri. In
Collora v. R. J. Reynolds Tobacco Co., a case filed in May 2000 in Circuit Court, St. Louis County,
Missouri, a judge in St. Louis certified a class on December 31, 2003. On April 9, 2007, the court
granted the plaintiffs motion to reassign Collora and the following cases to a single general
division: Craft v. Philip Morris Companies, Inc. and Black v. Brown & Williamson Tobacco Corp.,
discussed below. On April 16, 2008, the court stayed the case pending U.S. Supreme Court review in
Good v. Altria Group, Inc., a lights class-action pending against Altria and Philip Morris USA.
As a result of the U.S. Supreme Courts decision in Good v. Altria Group, Inc., this case is likely
to become active in 2009.
In Black v. Brown & Williamson Tobacco Corp., a case filed in November 2000 in Circuit Court,
City of St. Louis, Missouri, B&W removed the case to the U.S. District Court for the Eastern
District of Missouri on September 23, 2005. On October 25, 2005, the plaintiffs filed a motion to
remand, which was granted on March 17, 2006. On April 16, 2008, the court stayed the case pending
U.S. Supreme Court review in Good v. Altria Group, Inc. As a result of the U.S. Supreme Courts
decision in Good v. Altria Group, Inc., this case is likely to become active in 2009.
35
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
In Dahl v. R. J. Reynolds Tobacco Co., a case filed in April 2003, and pending in District
Court, Hennepin County, Minnesota, a judge dismissed the case on May 11, 2005, ruling the lights
claims are preempted by the Federal Cigarette Labeling and Advertising Act. On July 11, 2005, the
plaintiffs appealed to the Minnesota Court of Appeals for the Fourth Judicial District. During the
pendency of the appeal, RJR Tobacco removed the case to the U.S. District Court for the District of
Minnesota. On February 28, 2007, the Eighth Circuit remanded the case to the Minnesota Court of
Appeals, which on December 4, 2007, reversed the judgment and remanded the case to the District
Court. On February 27, 2008, RJR Tobaccos motion to stay its January 3, 2008, petition for review
until the completion of the U.S. Supreme Court review in Good v. Altria Group, Inc. was granted. On
January 20, 2009, the Minnesota Supreme Court issued an order vacating the February 27, 2008, order
that granted RJR Tobaccos petition for review. As a result of the U.S. Supreme Courts decision in
Good v. Altria Group, Inc., the case is likely to become active in 2009. On July 22, 2009, the
plaintiffs in this case and in Thompson v. R. J. Reynolds Tobacco Co. filed a motion to consolidate
for discovery and trial. On October 7, 2009, the court companioned the two cases and reserved its
ruling on the motion to consolidate, which it said will be reevaluated as discovery progresses.
In Thompson v. R. J. Reynolds Tobacco Co., a case filed in February 2005 in District Court,
Hennepin County, Minnesota, RJR Tobacco removed the case on September 23, 2005, to the U.S.
District Court for the District of Minnesota. On August 7, 2006, the parties filed a stipulation to
stay the case pending resolution of the appeal in Dahl v. R. J. Reynolds Tobacco Co. On October 29,
2007, the U.S. District Court remanded the case to the District Court for Hennepin County. On
February 1, 2008, the court stayed the case until the completion of the appeal in Dahl v. R. J.
Reynolds Tobacco Co. and Good v. Altria Group, Inc., and that stay has now been lifted. In May
2009, the court entered an agreed scheduling order that bifurcates merits and class certification
discovery, and the parties are engaged in class certification discovery. A class certification
hearing is scheduled for January 7, 2010. This case is likely to remain active through 2009. On
July 22, 2009, the plaintiffs in this case and in Dahl v. R. J. Reynolds Tobacco Co. filed a motion
to consolidate for discovery and trial. On October 7, 2009, the court companioned the two cases and
reserved its ruling on the motion to consolidate, which it said will be reevaluated as discovery
progresses.
In Cleary v. Philip Morris, Inc., a case filed in June 1998, and pending in Circuit Court,
Cook County, Illinois, the plaintiffs filed their motion for class certification on December 21,
2001, in an action brought against the major U.S. cigarette manufacturers, including RJR Tobacco
and B&W. The case was brought on behalf of persons who have allegedly been injured by (1) the
defendants purported conspiracy pursuant to which defendants concealed material facts regarding
the addictive nature of nicotine, (2) the defendants alleged acts of targeting its advertising and
marketing to minors, and (3) the defendants claimed breach of the public right to defendants
compliance with the laws prohibiting the distribution of cigarettes to minors. The plaintiffs
requested that the defendants be required to disgorge all profits unjustly received through its
sale of cigarettes to plaintiffs and the class, which in no event will be greater than $75,000 per
each class member, inclusive of punitive damages, interest and costs. On March 27, 2006, the court
dismissed count V, public nuisance, and count VI, unjust enrichment. The plaintiffs filed an
amended complaint on March 3, 2009, to add a claim of unjust enrichment and to include in the class
individuals who smoked light cigarettes. RJR Tobacco and B&W answered the amended complaint on
March 31, 2009. On July 5, 2009, the plaintiffs filed an additional motion for class
certification. On September 8, 2009, the court granted the defendants motion for summary judgment
on the pleadings concerning the lights claims as to all defendants other than Philip Morris.
In Williams v. Philip Morris USA, Inc., a case filed in July 2009 in the U.S. District Court
for the Eastern District of Arkansas against PM USA, Altria, RJR Tobacco and RAI, the plaintiffs
brought the case on behalf of all Arkansas residents who from July 1, 2004, to the date of
judgment, purchased, not for resale, the defendants cigarettes labeled as light or
ultra-light. The plaintiffs allege breach of express warranty, breach of implied warranty of
merchantability, fraudulent concealment, negligence, gross negligence and unjust enrichment. The
plaintiffs seek a variety of damages, including actual, compensatory and consequential damages,
restitution, disgorgement of profits, establishment of a trust for reimbursement and the funding of
a smoking cessation program, punitive damages, attorneys fees and costs. On July 22, 2009, the
plaintiffs filed an amended complaint omitting RJR Tobacco and RAI as defendants.
In VanDyke v. R. J. Reynolds Tobacco Co., a case filed in August 2009 in the U.S. District
Court for the District of New Mexico, the plaintiffs brought the case on behalf of all New Mexico
residents who from July 1, 2004, to the date of judgment, purchased, not for resale, the
defendants cigarettes labeled as lights or ultra lights. The
36
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
plaintiffs allege fraudulent misrepresentation, breach of express warranty, breach of implied
warranties of merchantability and of fitness for a particular purpose, violations of the New Mexico
Unfair Practices Act, unjust enrichment, negligence and gross negligence. The plaintiffs seek a
variety of damages, including actual, compensatory and consequential damages to the plaintiff and
the class but not damages for personal injury or health-care claims.
On April 17, 2009, plaintiffs in several pending lights cases filed a motion before the
Federal Panel on Multi-District Litigation to transfer and consolidate 11 lights cases for
pretrial proceedings. Among the cases sought to be consolidated was Cleary, as well as nine
additional cases currently pending against Philip Morris. Ultimately, Cleary was withdrawn from
the request for consolidation, and the remaining cases, as well as additional cases filed
thereafter, were consolidated and transferred to Judge John Woodcock of the U.S. District Court for
the District of Maine by the Multi-District Litigation panel. Philip Morris and Altria are the
only defendants in those cases.
In the event RJR Tobacco and its affiliates or indemnitees lose one or more of the pending
lights class-action suits, RJR Tobacco could face bonding difficulties depending upon the amount
of damages ordered, if any, which could have a material adverse effect on RJR Tobaccos, and
consequently RAIs, results of operations, cash flows or financial position.
Other Class Actions. Young v. American Tobacco Co., Inc., a case filed in November 1997 in
Circuit Court, Orleans Parish, Louisiana, the plaintiffs brought an ETS class action against U.S.
cigarette manufacturers, including RJR Tobacco and B&W, and parent companies of U.S. cigarette
manufacturers, including RJR, on behalf of all residents of Louisiana who, though not themselves
cigarette smokers, have been exposed to secondhand smoke from cigarettes which were manufactured by
the defendants, and who allegedly suffered injury as a result of that exposure. The plaintiffs seek
to recover an unspecified amount of compensatory and punitive damages. On October 13, 2004, the
trial court stayed this case pending the outcome of the appeal in Scott v. American Tobacco Co.,
Inc., discussed above under Medical Monitoring and Smoking Cessation Cases.
In Parsons v. A C & S, Inc., a case filed in February 1998 in Circuit Court, Ohio County, West
Virginia, the plaintiff sued asbestos manufacturers, U.S. cigarette manufacturers, including RJR
Tobacco and B&W, and parent companies of U.S. cigarette manufacturers, including RJR, seeking to
recover $1 million in compensatory and punitive damages individually and an unspecified amount for
the class in both compensatory and punitive damages. The class was brought on behalf of persons who
allegedly have personal injury claims arising from their exposure to respirable asbestos fibers and
cigarette smoke. The plaintiffs allege that Mrs. Parsons use of tobacco products and exposure to
asbestos products caused her to develop lung cancer and to become addicted to tobacco. The case has
been stayed pending a final resolution of the plaintiffs motion to refer tobacco litigation to the
judicial panel on multi-district litigation filed in In Re: Tobacco Litigation in the Supreme Court
of Appeals of West Virginia. On December 26, 2000, three defendants, Nitral Liquidators, Inc.,
Desseaux Corporation of North American and Armstrong World Industries, filed bankruptcy petitions
in the U.S. Bankruptcy Court for the District of Delaware, In re Armstrong World Industries, Inc.
Pursuant to section 362(a) of the Bankruptcy Code, Parsons is automatically stayed with respect to
all defendants.
Finally, in Jones v. American Tobacco Co., Inc., a case filed in December 1998 in Circuit
Court, Jackson County, Missouri, the defendants removed the case to the U.S. District Court for the
Western District of Missouri on February 16, 1999. The action was brought against the major U.S.
cigarette manufacturers, including RJR Tobacco and B&W, and parent companies of U.S. cigarette
manufacturers, including RJR, on behalf of tobacco product users and purchasers on behalf of all
similarly situated Missouri consumers. The plaintiffs allege that their use of the defendants
tobacco products has caused them to become addicted to nicotine. The plaintiffs seek to recover an
unspecified amount of compensatory and punitive damages. The case was remanded to the Circuit Court
on February 17, 1999. There has been limited activity in this case.
Broin Settlement. RJR Tobacco, B&W and other cigarette manufacturer defendants settled Broin
v. Philip Morris, Inc. in October 1997. This case had been brought in Florida state court on behalf
of flight attendants alleged to have suffered from diseases or ailments caused by exposure to ETS
in airplane cabins. The settlement agreement required the participating tobacco companies to pay a
total of $300 million in three annual $100 million installments, allocated among the companies by
market share, to fund research on the early detection and cure of diseases associated with tobacco
smoke. It also required those companies to pay a total of $49 million for the plaintiffs counsels
fees and expenses. RJR Tobaccos portion of these payments was approximately $86 million;
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Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
B&Ws portion of these payments was approximately $57 million. The settlement agreement bars
class members from bringing aggregate claims or obtaining punitive damages and also bars individual
claims to the extent that they are based on fraud, misrepresentation, conspiracy to commit fraud or
misrepresentation, RICO, suppression, concealment or any other alleged intentional or willful
conduct. The defendants agreed that, in any individual case brought by a class member, the
defendant will bear the burden of proof with respect to whether ETS can cause certain specifically
enumerated diseases, referred to as general causation. With respect to all other issues relating
to liability, including whether an individual plaintiffs disease was caused by his or her exposure
to ETS in airplane cabins, referred to as specific causation, the individual plaintiff will have
the burden of proof. On September 7, 1999, the Florida Supreme Court approved the settlement. The
Broin II cases, discussed above, arose out of the settlement of this case.
Health-Care Cost Recovery Cases
Health-care cost recovery cases have been brought by a variety of plaintiffs. Other than
certain governmental actions, these cases largely have been unsuccessful on remoteness grounds,
which means that one who pays an injured persons medical expenses is legally too remote to
maintain an action against the person allegedly responsible for the injury.
As of October 9, 2009, four health-care cost recovery cases were pending in the United States
against RJR Tobacco, B&W, as its indemnitee, or both, as discussed below after the discussion of
the State Settlement Agreements.
State Settlement Agreements. In June 1994, the Mississippi attorney general brought an
action, Moore v. American Tobacco Co., against various industry members, including RJR Tobacco and
B&W. This case was brought on behalf of the state to recover state funds paid for health care and
other assistance to state citizens suffering from diseases and conditions allegedly related to
tobacco use. Most other states, through their attorneys general or other state agencies, sued RJR
Tobacco, B&W and other U.S. cigarette manufacturers based on similar theories. The cigarette
manufacturer defendants, including RJR Tobacco and B&W, settled the first four of these cases
scheduled for trial Mississippi, Florida, Texas and Minnesota by separate agreements with
each such state.
On November 23, 1998, the major U.S. cigarette manufacturers, including RJR Tobacco and B&W,
entered into the Master Settlement Agreement with attorneys general representing the remaining 46
states, the District of Columbia, Puerto Rico, Guam, the Virgin Islands, American Samoa and the
Northern Marianas. Effective on November 12, 1999, the MSA settled all the health-care cost
recovery actions brought by, or on behalf of, the settling jurisdictions and released various
additional present and future claims.
In the settling jurisdictions, the MSA released RJR Tobacco, B&W, and their affiliates and
indemnitees, including RAI, from:
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all claims of the settling states and their respective political subdivisions and other
recipients of state health-care funds, relating to past conduct arising out of the use,
sale, distribution, manufacture, development, advertising, marketing or health effects of,
the exposure to, or research, statements or warnings about, tobacco products; and |
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all monetary claims of the settling states and their respective political subdivisions
and other recipients of state health-care funds, relating to future conduct arising out of
the use of or exposure to, tobacco products that have been manufactured in the ordinary
course of business. |
Set forth below are tables depicting the unadjusted tobacco industry settlement payment
schedule and the settlement payment schedule for RAIs operating subsidiaries under the State
Settlement Agreements, and related information for 2007 and beyond:
38
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Unadjusted Original Participating Manufacturers Settlement Payment Schedule
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|
|
|
|
|
|
|
2013 and |
|
|
|
2007 |
|
|
2008 |
|
|
2009 |
|
|
2010 |
|
|
2011 |
|
|
2012 |
|
|
thereafter |
|
First Four States Settlements: (1) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Mississippi Annual Payment |
|
$ |
136 |
|
|
$ |
136 |
|
|
$ |
136 |
|
|
$ |
136 |
|
|
$ |
136 |
|
|
$ |
136 |
|
|
$ |
136 |
|
Florida Annual Payment |
|
|
440 |
|
|
|
440 |
|
|
|
440 |
|
|
|
440 |
|
|
|
440 |
|
|
|
440 |
|
|
|
440 |
|
Texas Annual Payment |
|
|
580 |
|
|
|
580 |
|
|
|
580 |
|
|
|
580 |
|
|
|
580 |
|
|
|
580 |
|
|
|
580 |
|
Minnesota Annual Payment |
|
|
204 |
|
|
|
204 |
|
|
|
204 |
|
|
|
204 |
|
|
|
204 |
|
|
|
204 |
|
|
|
204 |
|
Remaining States Settlement: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Annual Payments (1) |
|
|
7,004 |
|
|
|
8,004 |
|
|
|
8,004 |
|
|
|
8,004 |
|
|
|
8,004 |
|
|
|
8,004 |
|
|
|
8,004 |
|
Base Foundation Funding |
|
|
25 |
|
|
|
25 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Growers Trust (2) |
|
|
500 |
|
|
|
500 |
|
|
|
295 |
|
|
|
295 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Offset by federal tobacco buyout(2) |
|
|
(500 |
) |
|
|
(500 |
) |
|
|
(295 |
) |
|
|
(295 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
8,389 |
|
|
$ |
9,389 |
|
|
$ |
9,364 |
|
|
$ |
9,364 |
|
|
$ |
9,364 |
|
|
$ |
9,364 |
|
|
$ |
9,364 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RAIs Operating Subsidiaries Settlement Expenses and Payment Schedule
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Settlement expenses |
|
$ |
2,821 |
|
|
$ |
2,703 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Settlement cash payments |
|
$ |
2,616 |
|
|
$ |
2,830 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Projected settlement expenses |
|
|
|
|
|
|
|
|
|
$ |
>2,500 |
|
|
$ |
>2,700 |
|
|
$ |
>2,700 |
|
|
$ |
>2,700 |
|
|
$ |
>2,700 |
|
Projected settlement cash payments |
|
|
|
|
|
|
|
|
|
$ |
>2,200 |
|
|
$ |
>2,500 |
|
|
$ |
>2,700 |
|
|
$ |
>2,700 |
|
|
$ |
>2,700 |
|
|
|
|
(1) |
|
Subject to adjustments for changes in sales volume, inflation and
other factors. All payments are to be allocated among the companies on
the basis of relative market share. |
|
(2) |
|
The Growers Trust payments scheduled to expire in 2010 will be offset
by obligations resulting from the federal tobacco buyout legislation,
not included in this table, signed in October 2004. See Tobacco
Buyout Legislation and Related Litigation below. |
The State Settlement Agreements also contain provisions restricting the marketing of tobacco
products. Among these provisions are restrictions or prohibitions on the use of cartoon characters,
brand-name sponsorships, apparel and other merchandise, outdoor and transit advertising, payments
for product placement, free sampling and lobbying. Furthermore, the State Settlement Agreements
required the dissolution of three industry-sponsored research and trade organizations.
The State Settlement Agreements have materially adversely affected RJR Tobaccos shipment
volumes. RAI believes that these settlement obligations may materially adversely affect the results
of operations, cash flows or financial position of RAI and RJR Tobacco in future periods. The
degree of the adverse impact will depend, among other things, on the rate of decline in U.S.
cigarette sales in the premium and value categories, RJR Tobaccos share of the domestic premium
and value cigarette categories, and the effect of any resulting cost advantage of manufacturers not
subject to the State Settlement Agreements.
Department of Justice Case. On September 22, 1999, the U.S. Department of Justice brought an
action against RJR Tobacco, B&W and other tobacco companies in the U.S. District Court for the
District of Columbia. The government initially sought to recover federal funds expended by the
federal government in providing health care to smokers who developed diseases and injuries alleged
to be smoking-related. In addition, the government sought, pursuant to the civil provisions of
RICO, disgorgement of profits the government contends were earned as a consequence of a RICO
racketeering enterprise. In September 2000, the court dismissed the governments claims asserted
under the Medical Care Recovery Act as well as those under the Medicare Secondary Payer provisions
of the Social Security Act, but did not dismiss the RICO claims. In February 2005, the U.S. Court
of Appeals for the District of Columbia ruled that disgorgement is not an available remedy in this
case. The governments petition for writ of certiorari with the U.S. Supreme Court was denied in
October 2005. The non-jury, bench trial began in September 2004, and closing arguments concluded on
June 10, 2005.
On August 17, 2006, the court found certain defendants, including RJR Tobacco and B&W, liable
for the RICO claims, but did not impose any direct financial penalties. The court instead enjoined
the defendants from committing future racketeering acts, participating in certain trade
organizations, making misrepresentations concerning smoking and health and youth marketing, and
using certain brand descriptors such as low tar, light, ultra light, mild and natural.
The court also ordered defendants to issue corrective communications on five subjects, including
39
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
smoking and health and addiction, and to comply with further undertakings, including maintaining
web sites of
historical corporate documents and disseminating certain marketing information on a
confidential basis to the government. In addition, the court placed restrictions on the ability of
the defendants to dispose of certain assets for use in the United States, unless the transferee
agrees to abide by the terms of the courts order, and ordered the defendants to reimburse the U.S.
Department of Justice its taxable costs incurred in connection with the case.
Certain defendants, including RJR Tobacco, filed notices of appeal to the U.S. Court of
Appeals for the District of Columbia on September 11, 2006. The government filed its notice of
appeal on October 16, 2006. In addition, the defendants, including RJR Tobacco, filed joint motions
asking the district court to clarify and to stay its order pending the defendants appeal. On
September 28, 2006, the district court denied the defendants motion to stay. On September 29,
2006, the defendants, including RJR Tobacco, filed a motion asking the court of appeals to stay the
district courts order pending the defendants appeal. The court granted the motion on October 31,
2006.
On November 28, 2006, the court of appeals stayed the appeals pending the trial courts ruling
on the defendants motion for clarification. The defendants motion for clarification was granted
in part and denied in part on March 16, 2007. The defendants motion as to the meaning and
applicability of the general injunctive relief of the August 17, 2006 order was denied. The request
for clarification as to the scope of the provisions in the order prohibiting the use of descriptors
and requiring corrective statements at retail point of sale was granted. The court also ruled that
the provisions prohibiting the use of express or implied health messages or descriptors do apply to
the actions of the defendants taken outside of the United States.
On May 22, 2009, the U.S. Court of Appeals largely affirmed the finding of liability against
the tobacco defendants and remanded to the trial court for dismissal of the trade organizations.
The court also largely affirmed the remedial order, including the denial of additional remedies,
but vacated the order and remanded for further proceedings as to the following four discrete
issues:
|
|
|
the issue of the extent of B&Ws control over tobacco operations was remanded for
further fact finding and clarification; |
|
|
|
|
the remedial order was vacated to the extent that it binds all defendants
subsidiaries and was remanded to the lower court for determination as to whether
inclusion of the subsidiaries and which subsidiaries satisfy Rule 65(d); |
|
|
|
|
the court held that the provision found in paragraph four of the injunction,
concerning the use of any express or implied health message or health descriptor for any
cigarette brand, should not be read to govern overseas sales. The issue was remanded to
the lower court with instructions to reformulate it so as to exempt foreign activities
that have no substantial, direct, and foreseeable domestic effects; and |
|
|
|
|
the remedial order was vacated regarding point of sale displays and remanded for
the district court to evaluate and make due provisions for the rights of innocent
persons, either by abandoning this part of the remedial order or re-crafting a new
version reflecting the rights of third parties. |
The defendants sought rehearing and/or rehearing en banc, but that motion was denied by the
appellate court on September 22, 2009. On September 28, 2009, the defendants filed a motion to
stay issuance of the mandate pending the filing and disposition of petitions for writ of certiorari
to the U.S. Supreme Court.
International Cases. A number of foreign countries have filed suit against RJR Tobacco, its
current or former affiliates, B&W and other tobacco industry defendants to recover funds for
health-care, medical and other assistance paid by those foreign governments to their citizens. No
such cases currently are pending in the United States against RJR Tobacco and its current or former
affiliates or indemnitees.
Four health-care reimbursement cases and four lights class-actions are pending against RJR
Tobacco, its current or former affiliates, or B&W outside the United States, seven in Canada and
one in Israel. Pursuant to the terms of the 1999 sale of RJR Tobaccos international tobacco
business, RJR Tobacco has tendered the defense of these actions to JTI. JTI has, subject to a
reservation of rights, assumed RJR Tobacco and its current or former affiliates liability, if any,
and is defending those actions.
On November 12, 1998, the government of British Columbia enacted legislation creating a civil
cause of action permitting the government to recover the costs of health-care benefits incurred for
B.C. residents arising from tobacco-related disease. The governments subsequent suit against
Canadian defendants and foreign defendants, including RJR Tobacco was dismissed in February 2000,
when the B.C. Supreme Court ruled that the legislation
40
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
was unconstitutional and set aside service
ex juris against the foreign defendants for that reason. The government
then enacted a revised statute and brought a new action, filed in January 2001, and pending in
Supreme Court, British Columbia. The plaintiff seeks to recover the present value of the total
expenditure by the government for health-care benefits provided for insured persons resulting from
tobacco-related disease or the risk of tobacco-related disease, the present value of the estimated
total expenditure by the government for health-care benefits that reasonably could be expected to
be provided for those insured persons resulting from tobacco-related disease or the risk of
tobacco-related disease, court ordered interest, and costs, or in the alternative, special or
increased costs. The plaintiff alleges that the defendants are liable under the following theories:
defective product, failure to warn, sale of cigarettes to children and adolescents, strict
liability, deceit and misrepresentation, and violation of trade practice and competition acts. In
September 2008, the trial date of September 6, 2010, was adjourned to a target trial date in
September 2011.
On March 13, 2008, a case was filed on behalf of Her Majesty the Queen in Right of the
Province of New Brunswick, Canada, against certain cigarette manufacturers, including RJR Tobacco,
in the Trial Division in the Court of Queens Bench of New Brunswick. The plaintiff seeks to
recover the present value of total expenditures by the Province for health care benefits resulting
or expecting to result from tobacco-related diseases or risk of tobacco-related diseases, costs or
special or increased costs. The plaintiff alleges that the defendants are liable under the
following theories: deceit and misrepresentation, failure to warn, promotion of cigarettes to
children and adolescents, negligent design and manufacture, breaches of other common law, equitable
and statutory duties and obligations and conspiracy and concerted action in Canada. On June 26,
2008, RJR Tobacco filed a notice of intent to defend.
On September 30, 2009, a case was filed on behalf of Her Majesty the Queen in Right of the
Province of Ontario, Canada, against certain cigarette manufacturers, including RJR Tobacco, in the
Ontario Superior Court of Justice. The plaintiff seeks to recover the present value of total
expenditures by the Province for health care benefits resulting or expecting to result from
tobacco-related diseases or risk of tobacco-related diseases, costs or special or increased costs.
The plaintiff alleges that the defendants are liable under the following theories: deceit and
misrepresentation, failure to warn, promotion of cigarettes to children and adolescents, negligent
design and manufacture, breaches of other common law, equitable and statutory duties and
obligations and conspiracy and concerted action in Canada. RJR Tobacco has yet to enter its
appearance in the case.
On September 1, 1998, the General Health Services filed a statement of claim against certain
cigarette manufacturers, including RJR Tobacco and B&W, in the District Court of Jerusalem, Israel.
The plaintiff seeks to recover the past and future value of the total expenditures for health-care
services provided to residents of Israel resulting from tobacco-related disease, court ordered
interest for past expenditures from date of filing the statement of claim, increased and/or
punitive and/or exemplary damages and costs. The plaintiff alleges that the defendants are liable
under the following theories: negligence, public nuisance, fraud, misleading advertisement,
defective product, failure to warn, sale of cigarettes to children and adolescents, strict
liability, deceit, concealment, misrepresentation and conspiracy. In 2002, the plaintiff obtained
leave to serve RJR Tobacco and B&W outside the jurisdiction. On behalf of RJR Tobacco, JTI filed a
motion challenging the grant of leave, which was denied. JTI appealed the decision to the Supreme
Court of Israel. A hearing occurred on March 28, 2005. A decision is pending.
In Adams v. Canadian Tobacco Manufacturers Council, a case filed in July 2009 in the Court of
Queens Bench for Saskatchewan against certain cigarette manufacturers, including RJR Tobacco, the
plaintiffs brought the case on behalf of all individuals who were alive on July 10, 2009, and who
have suffered, or who currently suffer, from chronic obstructive pulmonary disease, emphysema,
heart disease or cancer, after having smoked a minimum of 25,000 cigarettes designed, manufactured,
imported, marketed or distributed by the defendants. The plaintiffs allege fraud, fraudulent
concealment, breach of warranty, breach of warranty of merchantability and of fitness for a
particular purpose, failure to warn, design defects, negligence, breach of a special duty to
children and adolescents, conspiracy, concert of action, and unjust enrichment. The plaintiffs
seek compensatory and aggravated damages; punitive or exemplary damages; reimbursement of
tobacco-related health-care costs paid by the government; the right to waive the torts described
above and claim disgorgement of the amount of revenues or profits the defendants received from the
sale of tobacco products to putative class members; interest pursuant to the Pre-judgment Interest
Act and other similar legislation; and other relief the court deems just.
In Dorion v. Canadian Tobacco Manufacturers Council, a case filed in June 2009, in the Court
of Queens Bench of Alberta against certain cigarette manufacturers, including RJR Tobacco, the
plaintiffs brought the case on
41
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
behalf of all individuals, including their estates, dependants and
family members, who purchased or smoked
cigarettes designed, manufactured, marketed or distributed by the defendants. The plaintiffs
allege fraud, fraudulent concealment, breach of warranty, breach of warranty of merchantability and
of fitness for a particular purpose, failure to warn, design defects, negligence, breach of a
special duty to children and adolescents, conspiracy, concert of action, and unjust enrichment.
The plaintiffs seek compensatory and aggravated damages; punitive or exemplary damages;
reimbursement of tobacco-related health-care costs paid by the government; the right to waive the
torts described above and claim disgorgement of the amount of revenues or profits the defendants
received from the sale of tobacco products in Alberta; interest pursuant to the Pre-judgment
Interest Act and other similar legislation; and other relief the court deems just.
In Kunka v. Canadian Tobacco Manufacturers Council, a case filed in 2009 in the Court of
Queens Bench of Manitoba against certain cigarette manufacturers, including RJR Tobacco, the
plaintiffs brought the case on behalf of all individuals, including their estates, and their
dependants and family members, who purchased or smoked cigarettes manufactured by the defendants.
The plaintiffs allege fraud, fraudulent concealment, breach of warranty, breach of warranty of
merchantability and of fitness for a particular purpose, failure to warn, design defects,
negligence, breach of a special duty to children and adolescents, conspiracy, concert of action,
and unjust enrichment. The plaintiffs seek compensatory and aggravated damages; punitive and
exemplary damages; reimbursement of tobacco-related health-care costs paid by the government; the
right to waive the torts described above and claim disgorgement of the amount of revenues or
profits the defendants received from the sale of tobacco products in Manitoba; interest pursuant to
the Pre-judgment Interest Act and other similar legislation; and other relief the court deems just.
In Semple v. Canadian Tobacco Manufacturers Council, a case filed in June 2009 in the Supreme
Court of Nova Scotia against certain cigarette manufacturers, including RJR Tobacco, the plaintiffs
brought the case on behalf of all individuals, including their estates, dependants and family
members, who purchased or smoked cigarettes designed, manufactured, marketed or distributed by the
defendants for the period of January 1, 1954, to the expiry of the opt out period as set by the
court. The plaintiffs allege fraud, fraudulent concealment, breach of warranty, breach of warranty
of merchantability and of fitness for a particular purpose, failure to warn, design defects,
negligence, breach of a special duty to children and adolescents, conspiracy, concert of action,
and unjust enrichment. The plaintiffs seek compensatory and aggravated damages; punitive and
exemplary damages; reimbursement of tobacco-related health-care costs paid by the government; the
right to waive the torts described above and claim disgorgement of the amount of revenues or
profits the defendants received from the sale of tobacco products in Nova Scotia and Canada;
interest pursuant to the Pre-judgment Interest Act and other similar legislation; and other relief
the court deems just.
Native American Tribe Cases. As of October 9, 2009, one Native American tribe case was
pending before a tribal court in South Dakota against RJR Tobacco and B&W, Crow Creek Sioux Tribe
v. American Tobacco Co., a case filed in September 1997 in Tribal Court, Crow Creek Sioux, South
Dakota. The plaintiffs seek to recover actual and punitive damages, restitution, funding of a
clinical cessation program, funding of a corrective public education program, and disgorgement of
unjust profits from sales to minors. The plaintiffs claim that the defendants are liable under the
following theories: unlawful marketing and targeting of minors, contributing to the delinquency of
minors, unfair and deceptive acts or practices, unreasonable restraint of trade and unfair method
of competition, negligence, negligence per se, conspiracy and restitution of unjust enrichment. The
case is dormant.
Hospital Cases. As of October 9, 2009, one case brought by hospitals was pending against
cigarette manufacturers, including RJR Tobacco and B&W: City of St. Louis v. American Tobacco Co.,
Inc., filed in November 1998, and pending in the Circuit Court of the City of St. Louis, Missouri.
This case seeks recovery of uncompensated, unreimbursed health-care costs expended or to be
expended by hospitals on behalf of patients who suffer, or have suffered, from illnesses allegedly
resulting from the use of cigarettes. On June 28, 2005, the court granted the defendants motion
for summary judgment as to claims for damages which accrued prior to November 16, 1993. The claims
for damages which accrued after November 16, 1993, are still pending. The case is in discovery.
Trial is scheduled for June 7, 2010. Earlier this year, RJR Tobacco filed a motion for summary
judgment based on the plaintiffs lack of proof linking the defendants allegedly wrongful conduct
with the claimed damages. On June 30, 2009, the court denied that motion, but granted leave to the
plaintiffs to file additional expert reports on or before September 30, 2009. The plaintiffs filed
additional expert reports on September 30, 2009, in which they named a new expert and raised new
liability theories. On September 11, 2009, the defendants filed a motion for partial summary
judgment on the plaintiffs claims for future damages and for fraud.
42
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Other Cases. On May 20, 2008, the National Committee to Preserve Social Security and Medicare
filed a case against the major U.S. cigarette manufacturers, including RJR Tobacco, in the U.S.
District Court for the Eastern District of New York. The case seeks to recover twice the amount
paid by Medicare for health services provided to Medicare beneficiaries to treat their diseases
attributable to smoking the defendants cigarettes from May 21, 2002, to the present, for which
treatment the defendants were required or responsible to make payment under the Medicare
Secondary Payer Act. On July 21, 2008, the defendants filed a motion to dismiss for failure to
state a claim for lack of standing. On the same day, the plaintiffs filed a motion for summary
judgment as to liability under the Federal Rules of Civil Procedure 56(d)(2). On March 5, 2009, the
court granted the defendants motion to dismiss and denied the plaintiffs cross-motion for summary
judgment. The plaintiffs motion for reconsideration was denied on April 24, 2009. On May 20,
2009, the plaintiffs filed a notice of appeal to the Second Circuit Court of Appeals. On September
1, 2009, the defendants filed a motion for summary affirmance, or in the alternative, to dismiss
the appeal for lack of subject matter jurisdiction and for stay of the briefing schedule. The stay
was granted on September 3, 2009, pending determination of the motion for summary affirmance.
On August 31, 2009, RJR Tobacco and Conwood joined other tobacco manufacturers and a tobacco
retailer in filing a lawsuit in the U.S. District Court for the Western District of Kentucky
(Commonwealth Brands, Inc., v. United States of America), challenging certain provisions of the
Family Smoking Prevention and Tobacco Control Act of 2009,
referred to as the FDA Tobacco Act,
that severely restricts the few remaining
channels available to communicate with adult tobacco consumers. RAI believes these provisions
cannot be justified on any basis consistent with the demands of the First Amendment. The suit does
not challenge Congresss decision to give the U.S. Food and Drug Administration, referred to as the FDA, regulatory authority over tobacco products, nor
does it challenge the vast majority of the provisions of the new law. For a detailed description
of the FDA Tobacco Act, see Governmental Activity in Managements Discussion and Analysis of
Financial Condition and Results of Operations, below.
State Settlement Agreements-Enforcement and Validity
As of October 9, 2009, there were 59 cases concerning the enforcement, validity or
interpretation of the State Settlement Agreements in which RJR Tobacco or B&W is a party. This
number includes those cases, discussed below, relating to disputed payments under the State
Settlement Agreements.
On March 28, 2005, the National Association of Attorneys General, referred to as NAAG, sent a
notice, signed by 40 Attorneys General that one or more of the states intended to initiate
proceedings against RJR Tobacco for violating Section III (r) of the MSA, the various Consent
Decrees implementing the MSA and/or consumer fraud statutes in various states, all in connection
with RJR Tobaccos advertisements for Eclipse cigarettes. After a June 2005 meeting between
representatives of RJR Tobacco and NAAG, the Vermont Attorney General filed suit in July 2005, in
the Vermont Superior Court, Chittenden County, alleging that certain advertising for the Eclipse
cigarette brand violated both the MSA and the Vermont Consumer Fraud Statute. The State of Vermont
is seeking declaratory, injunctive, and monetary relief. The bench trial in this action began on
October 6, 2008, and lasted a total of five weeks. Closing arguments occurred on March 11, 2009. A
decision is pending.
On April 13, 2005, the Mississippi Attorney General notified B&W of its intent to seek
approximately $3.9 million in additional payments under the Mississippi Settlement Agreement. The
Mississippi Attorney General asserts that B&W failed to report in its net operating profit or its
shipments cigarettes manufactured by B&W under contract for Star Tobacco or its parent, Star
Scientific, Inc. On April 28, 2005, B&W advised the state that it did not owe the state any money.
On August 11, 2005, the Mississippi Attorney General filed in the Chancery Court of Jackson County,
Mississippi, a Notice of Violation, Motion to Enforce Settlement Agreement, and Request for an
Accounting by Defendant Brown & Williamson Holdings, Inc., formerly known as Brown & Williamson
Tobacco Corporation. In this filing, Mississippi estimated that its damages exceeded $5.0 million.
This matter is currently in the discovery phase.
On May 17, 2006, the State of Florida filed a motion, in the Circuit Court of the Fifteenth
Judicial Circuit, in and for Palm Beach County, Florida, to enforce the Settlement Agreement, for
an Accounting by Brown & Williamson Holdings, Inc., and for an Order of Contempt, raising
substantially the same issues as raised by the Mississippi Attorney General and seeking
approximately $12.4 million in additional payments under the Florida Settlement Agreement, as well
as $17.0 million in interest payments. Discovery in this matter is underway.
43
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
On October 28, 2008, Vibo Corporation, Inc. d/b/a General Tobacco, referred to as General,
filed a complaint in the U.S. District Court for the Western District of Kentucky against RJR
Tobacco and other participating manufacturers, referred to as PMs, under the MSA, and the Attorneys
General of the 52 states and territories that are parties to the MSA. General sought, among other
things, to enjoin enforcement of certain provisions of the MSA and an order relieving it of certain
of its payment obligations under the MSA and, in the event such relief was not granted, rescission
of Generals 2004 agreement to join the MSA. General also moved for a preliminary injunction that,
among other things, would have enjoined the states from enforcing certain of Generals payment
obligations under the MSA. On November 14, 2008, RJR Tobacco and the other defendants moved to
dismiss Generals complaint. On January 5, 2009, the court issued a memorandum opinion and order
granting the defendants motions and dismissing Generals lawsuit.
On December 11, 2008, General filed a second complaint, for declaratory relief under the MSA
in the California Superior Court for the County of San Diego against the State of California and
RJR Tobacco and other PMs under the MSA. Generals complaint seeks a declaration that a proposed
amendment to its agreement to join the MSA, under which it would no longer have to make certain MSA
payments, did not trigger the MSAs most favored nations provision or require that the settling
states agree to make similar payment relief available to other PMs. RJR Tobacco filed an answer to
the complaint on February 17, 2009. On March 9, 2009, RJR Tobacco and certain other PMs filed a
motion for summary judgment or, in the alternative, for summary adjudication. On March 17, 2009, a
group of subsequent participating manufacturers, referred to as SPMs, filed a similar motion. The
SPMs motion was granted on July 20, 2009. RJR Tobaccos and certain other PMs motion for summary
judgment was granted on July 21, 2009. On September 4, 2009, the plaintiffs filed a notice of
appeal.
In December 2007, nine states (California, Connecticut, Illinois, Maine, Maryland, New York,
Ohio, Pennsylvania and Washington) sued RJR Tobacco claiming that an advertisement published in
Rolling Stone magazine the prior month violated the MSAs ban on the use of cartoons. The states
asserted that the magazines content adjacent to a Camel gatefold advertisement included cartoon
images prohibited by the MSA and that certain images used in the Camel ad itself were prohibited
cartoons. In addition, three states (Connecticut, New York and Maryland) also claimed that a direct
mail piece distributed by RJR Tobacco violated the MSA prohibition against distributing utilitarian
items bearing a tobacco brand name. Each state sought injunctive relief and punitive monetary
sanctions. Eight of the nine courts have since ruled that the states are not entitled to the
punitive sanctions being sought. (The issue has not been resolved definitively by the other court
at this time.)
Five of these magazine advertisement cases have been ruled upon following bench trials:
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In Maine, RJR Tobacco received a complete defense ruling. |
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In Washington, the Washington Court of Appeals recently reversed, in part, a
favorable ruling in favor of RJR Tobacco at the trial court, holding that some of the
images used in the RJR Tobacco advertisement were cartoons, and has remanded the case
for further proceedings. |
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In Ohio, the court agreed that the Camel advertisement did not use any cartoons, but
ruled that the company should have prevented the use of cartoons in magazine-created
content next to the RJR Tobacco advertisement. RJR Tobacco appealed this decision, which has been briefed and argued. |
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The court in California ruled that the company was not liable for preventing the use
of cartoons in magazine-created content next to the RJR Tobacco advertisement, but that
a few of the images in the RJR Tobacco advertisement itself were technical and
unintentional cartoons. No monetary sanctions were awarded by the Ohio or California
courts. |
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The Pennsylvania court ruled against RJR Tobacco on both claims, agreeing with the
Commonwealth that the RJR Tobacco advertisement contained unspecified cartoons and that
RJR Tobacco was responsible for the cartoons included in the magazine created content,
regardless of whether the company was aware of it in advance. In addition, the
Pennsylvania court ordered RJR Tobacco to pay for the creation of a single page youth
smoking prevention advertisement in Rolling Stone issues in Pennsylvania within a year,
or pay a penalty of approximately $302,000, if it fails to do so. |
44
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
RJR Tobacco believes it has strong bases for appeal in the Ohio, California, Washington and
Pennsylvania cases. RJR Tobacco is awaiting a ruling by the MSA court in Illinois.
Finally, in Stewart v. R. J. Reynolds Tobacco Co., a class-action suit was filed in California
state court in December 2007, against the magazines publisher, Wenner Media, and RJR Tobacco,
claiming the mention of bands in the magazine-created content violated their right of publicity.
The plaintiffs seek compensatory and punitive damages. This case is still in a preliminary phase.
NPM Adjustment. The MSA includes an adjustment, referred to as an NPM Adjustment, that
potentially reduces the annual payment obligations of RJR Tobacco and the other PMs. Certain
requirements, collectively referred to as the Adjustment Requirements, must be satisfied before the
NPM Adjustment for a given year is available:
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an independent auditor designated under the MSA must determine that the PMs have
experienced a market share loss beyond a triggering threshold to those manufacturers
that do not participate in the MSA, such non-participating manufacturers referred to as
NPMs, and |
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in a binding arbitration proceeding, a firm of independent economic consultants must
find that the disadvantages of the MSA were a significant factor contributing to the
loss. |
When the Adjustment Requirements are satisfied, the MSA provides that the NPM Adjustment
applies to reduce the annual payment obligation of the PMs. However, an individual settling state
may avoid its share of the NPM Adjustment if it had in place and diligently enforced during the
entirety of the relevant year a Qualifying Statute that imposes escrow obligations on NPMs that
are comparable to what the NPMs would have owed if they had joined the MSA. In such event, the
states share of the NPM Adjustment is reallocated to other settling states, if any, that did not
have in place and diligently enforce a Qualifying Statute.
NPM Adjustment Claim for 2003. For 2003, the Adjustment Requirements were satisfied. As a
result, on April 17, 2006, RJR Tobacco placed approximately $647 million of its MSA payment into a
disputed payments account, in accordance with a procedure established by the MSA. That amount
represented RJR Tobaccos share of the 2003 NPM Adjustment as calculated by the MSA independent
auditor. On March 28, 2007, the independent auditor issued revised calculations that reduced RJR
Tobaccos share of the NPM Adjustment for 2003 to approximately $615 million. As a result, on April
19, 2007, RJR Tobacco instructed the independent auditor to release to the settling states
approximately $32 million from the disputed payments account.
Following RJR Tobaccos payment of a portion of its 2006 MSA payment into the disputed
payments account, 37 of the settling states filed legal proceedings in their respective MSA courts
seeking declaratory orders that they diligently enforced their Qualifying Statutes during 2003
and/or orders compelling RJR Tobacco and the other PMs that placed money in the disputed payments
account to pay the disputed amounts to the settling states. In response, RJR Tobacco and other PMs,
pursuant to the MSAs arbitration provisions, moved to compel arbitration of the parties dispute
concerning the 2003 NPM Adjustment, including the States diligent enforcement claims, before a
single, nationwide arbitration panel of three former federal judges. The settling states opposed
these motions, arguing, among other things, that the issue of diligent enforcement must be resolved
by MSA courts in each of the 52 settling states and territories.
As of October 9, 2009, 47 of the 48 courts that had addressed the question whether the dispute
concerning the 2003 NPM Adjustment is arbitrable had ruled that arbitration is required under the
MSA. On August 5, 2009, the last court to address the issue, the Montana Supreme Court, revised a
ruling by the Montana First Judicial District Court, and ruled that the state of Montana did not
agree to arbitrate the question of whether it diligently enforced a qualifying statute. A petition
for rehearing was filed by RJR Tobacco and certain other PMs on August 20, 2009. On September 10,
2009, the petition for rehearing was denied. The orders compelling arbitration in the remaining 47
states are now final and/or non-appealable.
As of January 30, 2009, RJR Tobacco and certain other PMs entered into an Agreement Regarding
Arbitration, referred to as the Arbitration Agreement, with 45 of the settling states, representing
approximately 90% of the allocable share of the settling states. The Arbitration Agreement
establishes October 1, 2009, as the date by which arbitration begins. Pursuant to the Arbitration
Agreement, signing states will have their ultimate liability (if any) with respect to the 2003 NPM
Adjustment reduced by 20%, and RJR Tobacco and the other PMs that placed their share of the
disputed 2005 NPM Adjustment (discussed below) into the disputed payments account have, without
releasing or waiving any claims, authorized the release of those funds to the settling states.
45
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Montana is one of the settling states that signed the Arbitration Agreement. Thus,
notwithstanding the ruling of the Montana Supreme Court with respect to the arbitrability of the
Diligent Enforcement issue, Montana is contractually obligated to participate with the other states
in the arbitration that will address all remaining issues related to the dispute pertaining to the
2003 NPM Adjustment.
Other NPM Adjustment Claims. From 2006 to 2008, proceedings were initiated with respect to an
NPM Adjustment for 2004, 2005 and 2006. The Adjustment Requirements were satisfied with respect to
the NPM Adjustment for each of 2004, 2005 and 2006. As a result:
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in April 2007, RJR Tobacco placed approximately $561 million of its 2007 MSA payment
(representing its share of the 2004 NPM Adjustment as calculated by the MSA independent
auditor), and in April 2008, placed approximately $431 million of its 2008 MSA payment
(representing its share of the 2005 NPM Adjustment as calculated by the independent
auditor, net of certain slight adjustments to reflect revised independent auditor
calculations of RJR Tobaccos share of the 2003 and 2004 NPM Adjustments) into the
disputed payments account; and |
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in April 2009, RJR Tobacco retained approximately $406.5 million of its 2009 MSA
payment to reflect its share of the 2006 NPM Adjustment as calculated by the independent
auditor. |
The MSA permits PMs to retain disputed payment amounts pending resolution of the dispute. If
the resolution of the dispute ultimately requires a PM to pay some or all of the disputed amount,
then the amount deemed to be due includes interest calculated from the date the payment was
originally due at the prime rate plus three percent.
In addition to the NPM Adjustment claims described above, RJR Tobacco has filed dispute
notices with respect to its 2007 and 2008 annual MSA payments relating to the NPM Adjustments
potentially applicable to those years. The total amount at issue for those two years is
approximately $900 million.
On June 30, 2009, RJR Tobacco, certain other PMs and the settling states entered into an
agreement with respect to the 2007, 2008 and 2009 significant factor determinations. This
agreement provides that the settling states will not contest that the disadvantages of the MSA were
a significant factor contributing to the market share loss experienced by the PMs in those years.
The stipulation pertaining to each of the three years will become effective in February of the
year a final determination by the firm of independent economic consultants would otherwise have
been expected (2010, 2011 and 2012, respectively), if the issue had been arbitrated on the merits.
RJR Tobacco and the PMs will pay a total amount of $5 million into the States Antitrust/Consumer
Protection Tobacco Enforcement Fund for each year covered by that agreement, with RJR Tobacco
paying approximately 47% of such amounts.
Due to the uncertainty over the final resolution of the NPM Adjustment claims asserted by RJR
Tobacco, no assurances can be made related to the amounts, if any, that will be realized.
Antitrust Cases
A number of tobacco wholesalers and consumers have sued U.S. cigarette manufacturers,
including RJR Tobacco and B&W, in federal and state courts, alleging that cigarette manufacturers
combined and conspired to set the price of cigarettes in violation of antitrust statutes and
various state unfair business practices statutes. In these cases, the plaintiffs asked the court to
certify the lawsuits as class actions on behalf of other persons who purchased cigarettes directly
or indirectly from one or more of the defendants. As of October 9, 2009, all of the federal and
state court cases on behalf of indirect purchasers have been dismissed, except for one state court
case pending in each of Kansas and in New Mexico.
In Smith v. Philip Morris Cos., Inc., a case filed in February 2000, and pending in District
Court, Seward County, Kansas, the court granted class certification on November 15, 2001, in an
action brought against the major U.S. cigarette manufacturers, including RJR Tobacco and B&W, and
the parent companies of the major U.S. cigarette manufacturers, including RJR, seeking to recover
an unspecified amount in actual and punitive damages. The plaintiffs allege that the defendants
participated in a conspiracy to fix or maintain the price of cigarettes sold in the United States.
The parties are currently engaged in discovery.
In Romero v. Philip Morris Cos., Inc., a case filed in April 2000 in District Court, Rio
Arriba County, New Mexico, the court granted class certification on May 14, 2003, in an action
brought against the major U.S. cigarette manufacturers, including RJR Tobacco and B&W, and the
parent companies of the major U.S. cigarette manufacturers, including RJR, seeking to recover an
amount not to exceed $74,000 per class member in actual and punitive damages, exclusive of interest
and costs. The plaintiffs allege that the defendants conspired to
46
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
fix, raise, advance and/or stabilize prices for cigarettes in the State of New Mexico from at least as
early as January 1, 1998, through the present. On June 30, 2006, the court granted the defendants
motion for summary judgment. On November 18, 2008, the New Mexico Court of Appeals reversed the
grant of summary judgment in favor of RJR Tobacco, B&W and Philip Morris. On January 7, 2009, RJR
Tobacco filed a petition for a writ of certiorari, and on February 27, 2009, the Supreme Court of
the State of New Mexico granted that petition. Briefing is underway.
Other Litigation and Developments
By purchase agreement dated May 12, 1999, referred to as the 1999 Purchase Agreement, RJR and
RJR Tobacco sold the international tobacco business to JTI. RJR and RJR Tobacco retained certain
liabilities relating to the activities of Northern Brands, including those relating to a 1998
guilty plea entered in the U.S. District Court for the Northern District of New York, as well as an
investigation conducted by the Royal Canadian Mounted Police, referred to as RCMP, for possible
violations of Canadian law related to the activities that led to the Northern Brands guilty plea
and certain conduct by Stanley Smith, a former executive of RJR-Macdonald, Inc., referred to as
RJR-MI, which led to the termination of his severance agreement. Under its reading of the
indemnification provisions of the 1999 Purchase Agreement, JTI has requested indemnification for
any damages arising out of the matters described below:
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In February 2003, the RCMP filed criminal charges in the Province of Ontario against,
and purported to serve summonses on, JTI-Macdonald Corp., referred to as JTI-MC, Northern
Brands, R. J. Reynolds Tobacco International, Inc., referred to as RJR-TI, R. J. Reynolds
Tobacco Co., Puerto Rico, referred to as RJR-PR, and eight individuals associated with
RJR-MI and/or RJR-TI during the period January 1, 1991, through December 31, 1996. The
charges allege fraud and conspiracy to defraud Canada and the Provinces of Ontario and
Quebec in connection with the purchase, sale, export, import and/or re-export of cigarettes
and/or fine cut tobacco. In October 2003, Northern Brands, RJR-TI and RJR-PR each
challenged both the propriety of the service of the summonses and the jurisdiction of the
court. On February 9, 2004, the Superior Court of Justice ruled in favor of these
companies. The government filed a notice of appeal from that ruling, and in 2007, the Court
of Appeal announced a unanimous decision in favor of the companies position and dismissed
the governments appeal. |
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A preliminary hearing commenced on April 11, 2005, for the purpose of determining whether
the Canadian prosecutor had sufficient evidence supporting the criminal charges to justify a
trial of the defendants that had been properly served to date. On May 30, 2007, the court
announced its decision to issue an order committing two of the accused, JTI-MC and Edward
Lang, to stand trial on the charges filed in February 2003 and discharging the other six
accused. JTI-MC and Mr. Lang separately filed papers seeking an order quashing the order
committing them to stand trial, and the government filed papers seeking an order quashing
the order discharging six of the accused. On December 19, 2007, JTI-MC abandoned its effort
to have the order committing it to trial quashed. On February 19, 2008, the Superior Court
of Justice in Ontario denied Mr. Langs request to quash the order committing him to trial.
The court granted the governments request to quash the order discharging six individuals
and remanded the matter to the preliminary hearing judge for reconsideration. No appeals
were taken from that decision. The matter is currently being reconsidered by the preliminary
hearing judge. |
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On October 31, 2007, the Office of the Attorney General of Ontario confirmed that the
prosecutors request for preferred indictments against RJR-TI, RJR-PR and Northern Brands
had been denied at that point in time. |
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In July 2003, a Statement of Claim was filed against JTI-MC and others in the Superior
Court of Justice, Ontario, Canada by Leslie and Kathleen Thompson. Mr. Thompson is a former
employee of Northern Brands and JTI-MCs predecessor, RJR-MI. Mr. and Mrs. Thompson have
alleged breach of contract, breach of fiduciary duty and negligent misrepresentation, among
other claims. They are seeking lost wages and other damages, including punitive damages, in
an aggregate amount exceeding $12 million. |
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On September 18, 2003, RJR, RJR Tobacco, RJR-TI, RJR-PR, and Northern Brands were
served with a Statement of Claim filed in August 2003 by the Attorney General of Canada in
the Superior Court of Justice, Ontario, Canada. Also named as defendants are JTI and a
number of its affiliates. The Statement of |
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Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
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Claim seeks to recover taxes and duties
allegedly not paid as a result of cigarette smuggling and related
activities. As filed, the Attorney Generals Statement of Claim seeks to recover $1.5 billion
Canadian in compensatory damages and $50 million Canadian in punitive damages, as well as
equitable and other forms of relief. However, in the Companies Creditor Arrangement Act
proceeding described below, the Attorney General amended and increased Canadas claim to $4.3
billion Canadian. The parties have agreed to a stay of all proceedings pending in the
Superior Court of Justice, subject to notice by one of the parties that it wishes to
terminate the stay. On January 15, 2009, the Court ordered that the deadline for setting the
action for trial is January 31, 2011. |
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In August 2004, the Quebec Ministry of Revenue (1) issued a tax assessment, covering
the period January 1, 1990, through December 31, 1998, against JTI-MC for alleged unpaid
duties, penalties and interest in an amount of about $1.36 billion Canadian; (2) issued an
order for the immediate payment of that amount; and (3) obtained an ex parte judgment to
enforce the payment of that amount. On August 24, 2004, JTI-MC applied for protection under
the Companies Creditor Arrangement Act in the Ontario Superior Court of Justice, Toronto,
Canada, referred to as CCAA Proceedings, and the court entered an order staying the Quebec
Ministry of Revenues proceedings as well as other claims and proceedings against JTI-MC.
The stay has been extended to March 15, 2010. In November 2004, JTI-MC filed a motion in
the Superior Court, Province of Quebec, District of Montreal, seeking a declaratory
judgment to set aside, annul and declare inoperative the tax assessment and all ancillary
enforcement measures and to require the Quebec Minister of Revenue to reimburse JTI-MC for
funds unduly appropriated, along with interest and other relief. Pursuant to a
court-imposed deadline, Canada and several Provinces filed Crown claims against JTI-MC in
the CCAA Proceedings in the following amounts: Canada, $4.3 billion Canadian; Ontario, $1.5
billion Canadian; New Brunswick, $1.5 billion Canadian; Quebec, $1.4 billion Canadian;
British Columbia, $450 million Canadian; Nova Scotia, $326 million Canadian; Prince Edward
Island, $75 million Canadian and Manitoba, $23 million Canadian. In the CCAA Proceedings,
the Canadian federal government and some of the provincial governments have asserted that
they can make the same tax and related claims against RJR and certain of its subsidiaries,
including RJR Tobacco. To date, none of those provincial governments have filed and served
RJR or any of its affiliates with a formal Statement of Claim like the Canadian federal
government did in August and September 2003. Discussions regarding possible agreed-upon
procedures for adjudicating and appellate review of the claims and defenses asserted in the
CCAA Proceedings are taking place. |
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On November 17, 2004, a Statement of Claim was filed against JTI-MC in the Supreme
Court of British Columbia by Stanley Smith, a former executive of RJR-MI, for alleged
breach of contract and other legal theories. Mr. Smith is claiming $840,000 Canadian for
salary allegedly owed under his severance agreement with RJR-MI, as well as other
unspecified compensatory and punitive damages. Mr. Smith subsequently filed a
substantively identical claim in the Superior Court of Justice in Ontario and proposed that
the action be tried in Toronto. |
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In a letter dated March 31, 2006, counsel for JTI stated that JTI would be seeking
indemnification under the 1999 Purchase Agreement for any damages it may incur or may have
incurred arising out of a Southern District of New York grand jury investigation, a
now-terminated Eastern District of North Carolina grand jury investigation, and various
actions filed by the European Community and others in the U.S. District Court for the
Eastern District of New York, referred to as the EDNY, against RJR Tobacco and certain of
its affiliates on November 3, 2000, August 6, 2001, and (as discussed in greater detail
below) October 30, 2002, and against JTI on January 11, 2002. |
Although RJR and RJR Tobacco recognize that, under certain circumstances, they may have
indemnification obligations to JTI under the 1999 Purchase Agreement, RJR and RJR Tobacco disagree
with JTI as to whether the circumstances relating to any of these matters give rise to any
indemnification obligation by RJR and RJR Tobacco. RJR and RJR Tobacco conveyed their position to
JTI, and the parties have agreed to resolve their differences at a later time. In the interim, RJR
and RJR Tobacco are paying defense costs and expenses in connection with certain of the Canadian
litigation described above. RJR Tobacco expensed $6 million during the first nine months of 2009
and $9 million during the first nine months of 2008, for funds to be reimbursed to JTI for costs
and expenses arising out of the Canadian litigation. In addition, as of December 31, 2008, RJR,
including its subsidiary RJR Tobacco, had liabilities of $94 million that were recorded in 1999 in
connection with certain of the indemnification claims asserted by JTI. For further information on
the JTI indemnification claims, see Other Contingencies below.
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Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
On May 15, 2007, RAI was served with a subpoena issued by the U.S. District Court for the
Middle District of North Carolina. The subpoena seeks documents relating primarily to the business
of RJR-TI regarding the
manufacture and sale of Canadian brand cigarettes during the period 1990 through 1996. The
subpoena was issued at the request of Canada pursuant to a Mutual Legal Assistance Treaty between
the United States and Canada.
On October 30, 2002, the European Community and ten of its member states filed a complaint in
the EDNY against RJR, RJR Tobacco and several currently and formerly related companies. The
complaint contains many of the same or similar allegations found in an earlier complaint, now
dismissed, filed in August 2001 and also alleges that the defendants, together with certain
identified and unidentified persons, engaged in money laundering and other conduct violating civil
RICO and a variety of common laws. The complaint also alleges that the defendants manufactured
cigarettes that were eventually sold in Iraq in violation of U.S. sanctions. The plaintiffs seek
compensatory, punitive and treble damages among other types of relief. This matter has been stayed.
The European Community and the member states have recently suggested that they may file similar
claims regarding the U.S. tobacco business of B&W, which was acquired in 2004 in the B&W business
combination.
RJR Tobacco was named a defendant in a number of lawsuits originally filed in various federal
courts in 2002 by plaintiffs alleging descent from persons held in slavery in the United States and
seeking damages from numerous corporate defendants for having allegedly profited from historic
slavery. In October 2002, those actions were consolidated by the Judicial Panel on Multidistrict
Litigation for pre-trial proceedings in the U.S. District Court for the Northern District of
Illinois. On July 6, 2005, the court dismissed the entire action on a variety of grounds. On
December 13, 2006, the U.S. Court of Appeals for the Seventh Circuit affirmed dismissal in all
respects but one. It remanded some cases for further proceedings limited to the claims by some
plaintiffs that present-day representations about historic ties to slavery by some defendants
violated state consumer fraud laws. On October 1, 2007, the U.S. Supreme Court denied plaintiffs
petition for a writ of certiorari. The plaintiffs in all but one of the cases either voluntarily
dismissed their claims or otherwise abandoned the litigation. On August 11, 2008, the district
court granted the defendants motion to dismiss the remaining plaintiffs and terminated the case.
However, the motion to dismiss excluded plaintiffs Timothy and Chester Hurdle, who filed a third
amended complaint on July 31, 2007. At the time, no ruling was made on the motion to dismiss the
Hurdle plaintiffs and the plaintiffs named in the third amended complaint. On April 15, 2009, the
court granted the defendants motion to dismiss the third amended complaint without prejudice. On
September 3, 2009, the court issued a ruling to show cause as to why the case should not be
dismissed with prejudice and finality. The Hurdle plaintiffs filed a fourth amended complaint
under the Hurdle docket number on October 2, 2009, and filed a motion for leave to file a fourth
amended complaint and a notice of filing with the Multidistrict Litigation panel on October 5,
2009.
On May 23, 2001, and July 30, 2002, Star Scientific, Inc., referred to as Star, filed two
patent infringement actions, which have been consolidated, against RJR Tobacco in the U.S. District
Court for the District of Maryland (Star I). Both patents at issue are entitled Method of
Treating Tobacco to Reduce Nitrosamine Content, and Products Produced Thereby, and bear U.S.
Patent Nos. 6,202,649 and 6,425,401. The plaintiffs sought: the entry of an injunction restraining
RJR Tobacco from further acts of infringement, inducement of infringement, or contributory
infringement of the patents; an award of damages, including a reasonable royalty, to compensate for
the infringement; an award of enhanced damages on account that the defendants conduct was willful;
an award of pre-judgment interest and a further award of post-judgment interest; an award of
reasonable attorneys fees; and an order requiring RJR Tobacco to deliver up to the court for
destruction all products manufactured from any process which infringes upon, directly or indirectly
or otherwise, any claim of such patent. RJR Tobacco filed counterclaims seeking a declaration that
the claims of the two Star patents are invalid, unenforceable and not infringed by RJR Tobacco.
Between January 31 and February 8, 2005, the court held a first bench trial on RJR Tobaccos
affirmative defense and counterclaim based upon inequitable conduct. Additionally, in response to
the courts invitation, RJR Tobacco filed two summary judgment motions on January 20, 2005.
On January 19, 2007, the court granted RJR Tobaccos motion for summary judgment of invalidity
based on indefiniteness. The court granted in part and denied in part RJR Tobaccos other summary
judgment motion concerning the effective filing date of the patents in suit. On June 26, 2007, the
court ruled that Stars patents are unenforceable due to inequitable conduct by Star and its
representatives in the U.S. Patent & Trademark Office, referred to as the PTO. On June 26, 2007,
the court also entered final judgment in favor of RJR Tobacco and against Star, dismissing all of
Stars claims with prejudice. On June 27, 2007, Star filed a notice of appeal with the U.S. Court
of Appeals for the Federal Circuit.
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Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
On August 25, 2008, the Federal Circuit issued a decision reversing the district courts
holdings and remanded the case to the district court for further proceedings on the issues of
validity and infringement. On March 6, 2009, Star
updated its damages calculation based on an alleged reasonable royalty to a range of $294.9 to
$362.1 million. Star also claimed treble damages of such amounts based on willful infringement
allegations.
Trial began on May 18, 2009. On June 16, 2009, the jury returned a verdict in favor of RJR
Tobacco. On July 7, 2009, Star filed a combined motion for a judgment as a matter of law or a new
trial, which RJR Tobacco has opposed. The court has not yet ruled on Stars motion, nor has it
entered final judgment in Star I.
In addition, both of Stars patents are now undergoing reexamination in the PTO, based on
substantial new questions of patentability that exist for both patents. On September 11, 2009, the
PTO issued an office action rejecting the claims currently under reexamination.
Finally, on May 29, 2009, Star filed a follow-on lawsuit in the U.S. District Court for the
District of Maryland (Star II) seeking damages for alleged infringement in 2003 and thereafter of
the patents held invalid and not infringed in Star I. Star has moved to stay Star II pending entry
of final judgment and appeal in Star I. RJR Tobacco has opposed Stars requested stay and has
advised the court that Star II should be dismissed in view of Star I.
Finally, in the first quarter of 2005, Commonwealth Brands, Inc., referred to as Commonwealth,
was served with an individual smoking and health case, Croft v. Akron Gasket in Cuyahoga County,
Ohio. Commonwealth requested indemnity from RJR Tobacco pursuant to the Asset Purchase Agreement
dated July 24, 1996, between Commonwealth and B&W, referred to as the 1996 Purchase Agreement. As a
result of the B&W business combination, RJR Tobacco agreed to indemnify Commonwealth for this claim
to the extent, if any, required by the 1996 Purchase Agreement. The scope of the indemnity will be
at issue and has not been determined.
Smokeless Tobacco Litigation
As of October 9, 2009, Conwood Company, LLC was a defendant in six actions brought by
individual plaintiffs in West Virginia state court seeking damages in connection with personal
injuries allegedly sustained as a result of the usage of the Conwood companies smokeless tobacco
products. These actions are pending before the same West Virginia court as the 654 consolidated
individual smoker cases against RJR Tobacco, B&W, as RJR Tobaccos indemnitee, or both. Pursuant to
the courts December 3, 2001, order, the smokeless tobacco claims and defendants remain severed.
Pursuant to a second amended complaint filed in September 2006, Conwood Company, LLC is a
defendant in Vassallo v. United States Tobacco Company, pending in the Eleventh Circuit Court in
Miami-Dade County, Florida. The individual plaintiff alleges that he sustained personal injuries,
including addiction and cancer, as a result of his use of smokeless tobacco products, allegedly
including products manufactured by the Conwood companies. The plaintiff seeks unspecified
compensatory and consequential damages in an amount greater than $15,000. There is not a punitive
damages demand in this case, though the plaintiff retains the right to seek leave of court to add
such a demand later. Discovery is underway.
On September 4, 2009, Conwood Company, LLC, among others, brought suit in the Circuit Court,
Marion County, Oregon (Conwood Company, LLC v. John Kroger), to enjoin the enforcement of an Oregon
statute requiring smokeless tobacco manufacturers to either comply with certain requirements of the
Smokeless Tobacco Master Settlement Agreement, referred to as the STMSA, or pay into an escrow account
$0.40 per unit sold in Oregon. Conwood contends the statute violates the constitutions of Oregon
and the United States. For a more detailed description of the STMSA, see Governmental Activity
in Managements Discussion and Analysis of Financial Condition and Results of Operations, below.
Tobacco Buyout Legislation and Related Litigation
On October 22, 2004, the President signed the Fair and Equitable Tobacco Reform Act of 2004,
referred to as FETRA, eliminating the U.S. governments tobacco production controls and price
support program. The buyout of tobacco quota holders provided for in FETRA is funded by a direct
quarterly assessment on every tobacco product
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Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
manufacturer and importer, on a market-share basis
measured on volume to which federal excise tax is applied. The aggregate cost of the buyout to the
industry is approximately $9.9 billion, including approximately $9.6 billion
payable to quota tobacco holders and growers through industry assessments over ten years and
approximately $290 million for the liquidation of quota tobacco stock. As a result of the tobacco
buyout legislation, the MSA Phase II obligations established in 1999 will be continued as scheduled
through the end of 2010, but will be offset against the tobacco quota buyout obligations. RAIs
operating subsidiaries annual expense under FETRA, excluding the tobacco stock liquidation
assessment, is estimated to be approximately $220 million to $240 million.
RAIs operating subsidiaries will record the FETRA assessment on a quarterly basis as cost of
goods sold. RAIs operating subsidiaries estimate that their overall share of the buyout will
approximate $2.3 billion to $2.8 billion prior to the deduction of permitted offsets under the MSA.
In addition, future market pricing could impact the carrying value of inventory, and adversely
affect RJR Tobaccos financial position and results of operations.
As noted above, the MSA Phase II obligations are offset against the tobacco quota buyout
obligations. Because growers in two states, Maryland and Pennsylvania, did not participate in the
quota system, they are not eligible for payments under FETRA. Given that the assessments paid by
tobacco product manufacturers and importers under FETRA fully offset their MSA Phase II payment
obligations, the growers in Maryland and Pennsylvania would no longer receive payments under the
MSA Phase II program. Thus, the growers in these two states do not receive payments under either
FETRA or the MSA Phase II program.
On December 17, 2004, Maryland and Pennsylvania filed in the North Carolina Business Court a
Motion for Clarification or Modification of the Trust, that is, the Growers Trust that created the
MSA Phase II obligations. They later supplemented this filing with a Statement of Claim, filed on
June 24, 2005. Maryland and Pennsylvania contend that they are entitled to relief from the
operation of the tax offset adjustment provision of the Growers Trust and that payments under the
Growers Trust to the growers in their states should continue. Following discovery, the parties
filed cross-motions for summary judgment on May 5, 2006. On August 17, 2007, the Business Court
granted summary judgment in favor of Maryland and Pennsylvania and denied summary judgment to the
tobacco manufacturers, including RJR Tobacco, that were the settlors of the Growers Trust. The
Business Court ruled that the Growers Trust, as written and without judicial modification, requires
continuing payments to the Growers Trust for the benefit of tobacco growers in Maryland and
Pennsylvania. RJR Tobacco and the other tobacco manufacturer/settlors filed their Notice of Appeal
on September 14, 2007. On December 16, 2008, the North Carolina Court of Appeals, in a 2-1
decision, reversed the Business Court and remanded the case for entry of judgment in favor of RJR
Tobacco and the other tobacco manufacturers/settlors. On January 20, 2009, Maryland and
Pennsylvania filed an appeal of right based on the dissenting opinion and also filed a petition for
discretionary review on certain additional issues. On January 30, 2009, RJR Tobacco and the other
tobacco manufacturers/settlors filed a response to the states petition for discretionary review.
On March 19, 2009, the North Carolina Supreme Court granted the states petition for discretionary
review. Oral argument before the North Carolina Supreme Court took place on September 10, 2009. A
decision is pending.
ERISA Litigation
On May 13, 2002, in Tatum v. The R.J.R. Pension Investment Committee of the R. J. Reynolds
Tobacco Company Capital Investment Plan, an employee of RJR Tobacco filed a class-action suit in
the U.S. District Court for the Middle District of North Carolina, alleging that the defendants,
RJR, RJR Tobacco, the RJR Employee Benefits Committee and the RJR Pension Investment Committee,
violated the Employee Retirement Income Security Act of 1974, referred to as ERISA. The actions
about which the plaintiff complains stem from a decision made in 1999 by RJR Nabisco Holdings
Corp., subsequently renamed Nabisco Group Holdings Corp., referred to as NGH, to spin off RJR,
thereby separating NGHs tobacco business and food business. As part of the spin-off, the 401(k)
plan for the previously related entities had to be divided into two separate plans for the now
separate tobacco and food businesses. The plaintiff contends that the defendants violated ERISA by
not overriding an amendment to RJRs 401(k) plan requiring that, prior to February 1, 2000, the
stock funds of the companies involved in the food business, NGH and Nabisco Holdings Corp.,
referred to as Nabisco, be eliminated as investment options from RJRs 401(k) plan. In his
complaint, the plaintiff requests, among other things, that the court require the defendants to pay
as damages to the RJR 401(k) plan an amount equal to the subsequent appreciation that was
purportedly lost as a result of the liquidation of the NGH and Nabisco funds.
51
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
On July 29, 2002, the defendants filed a motion to dismiss, which the court granted on
December 10, 2003. On December 14, 2004, the U.S. Court of Appeals for the Fourth Circuit reversed
the dismissal of the complaint and remanded the case for further proceedings. On January 20, 2005,
the defendants filed a second motion to dismiss on
other grounds. On March 7, 2007, the court granted the plaintiff leave to file an amended
complaint and denied all pending motions as moot. On April 6, 2007, the defendants moved to dismiss
the amended complaint. On May 31, 2007, the court granted the motion in part and denied it in part,
dismissing all claims against the RJR Employee Benefits Committee and the RJR Pension Investment
Committee. The remaining defendants, RJR and RJR Tobacco, filed their answer and affirmative
defenses on June 14, 2007. On November 19, 2007, the plaintiff filed a motion for class
certification, which the court granted on September 29, 2008. The district court ordered mediation,
which occurred on July 10, 2008, but no resolution of the case was reached at that time. On
September 18, 2008, each of the plaintiffs and the defendants filed motions for summary judgment,
and on January 9, 2009, the defendants filed a motion to decertify the class. Decisions on these
motions remain pending. A second mediation occurred on June 23, 2009, but again no resolution of
the case was reached. The case is scheduled for trial commencing on January 11, 2010.
Employment Litigation
On March 19, 2007, in Marshall v. R. J. Reynolds Tobacco Co., the plaintiff filed a collective
action complaint against RJR Tobacco in the U.S. District Court for the Western District of
Missouri alleging violations of the Fair Labor Standards Act, referred to as FLSA. The allegations
include failure to keep accurate records of all hours worked by RJR Tobaccos employees and failure
to pay wages and overtime compensation to non-exempt retail representatives. The total number of
current or former retail representatives participating as of October 9, 2009, was 469, including
those who have opted in the Marshall case and subsequent lawsuits filed in New York and California
as described below.
Two other cases alleging violations of the FLSA and other state law wage and hour claims were
filed in February 2008: Radcliffe v. R. J. Reynolds Tobacco Co., filed in federal court in
California, and Dinino v. R. J. Reynolds Tobacco Co., filed in federal court in New York. The
Dinino and Radcliffe matters have been transferred to the Missouri court and consolidated with the
already pending Marshall case due to the similarity of issues to be resolved. The plaintiffs in the
Dinino and Radcliffe matters failed to move for class certification on the state law claims.
On December 22, 2008, RJR Tobaccos motion for partial summary judgment was granted. The court
ruled that the plaintiffs commutes from their homes to their first assignment of the day, and
their commutes from their last assignments of the day to their homes, are non-compensable. On
February 5, 2009, the court denied the plaintiffs motion for reconsideration on this issue or, in
the alternative, plaintiffs request for certification for interlocutory appeal.
The consolidated case is still in the discovery phase. Two mediation sessions were held in the
first quarter of 2009, but the parties were unable to reach a resolution.
It is anticipated that plaintiffs will file a stipulated dismissal of 89 of the opt in
plaintiffs no later than October 25, 2009. As a result, the number of current or former retail
representatives participating in the lawsuit will be 380.
Environmental Matters
RAI and its subsidiaries are subject to federal, state and local environmental laws and
regulations concerning the discharge, storage, handling and disposal of hazardous or toxic
substances. Such laws and regulations provide for significant fines, penalties and liabilities,
sometimes without regard to whether the owner or operator of the property knew of, or was
responsible for, the release or presence of hazardous or toxic substances. In addition, third
parties may make claims against owners or operators of properties for personal injuries and
property damage associated with releases of hazardous or toxic substances. In the past, RJR Tobacco
has been named a potentially responsible party with third parties under the Comprehensive
Environmental Response, Compensation and Liability Act with respect to several superfund sites. RAI
and its subsidiaries are not aware of any current environmental matters that are expected to have a
material adverse effect on the business, results of operations or financial position of RAI or its
subsidiaries.
52
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Regulations promulgated by the U.S. Environmental Protection Agency and other governmental
agencies under various statutes have resulted in, and likely will continue to result in,
substantial expenditures for pollution control,
waste treatment, plant modification and similar activities. RAI and its subsidiaries are
engaged in a continuing program to comply with federal, state and local environmental laws and
regulations, and dependent upon the probability of occurrence and reasonable estimation of cost,
accrue or disclose any material liability. Although it is difficult to reasonably estimate the
portion of capital expenditures or other costs attributable to compliance with environmental laws
and regulations, RAI does not expect such expenditures or other costs to have a material adverse
effect on the business, results of operations or financial position of RAI or its subsidiaries.
Other Contingencies
In connection with the sale of the international tobacco business to JTI, pursuant to the 1999
Purchase Agreement, RJR and RJR Tobacco agreed to indemnify JTI against:
|
|
|
any liabilities, costs and expenses arising out of the imposition or assessment of any
tax with respect to the international tobacco business arising prior to the sale, other
than as reflected on the closing balance sheet; |
|
|
|
|
any liabilities, costs and expenses that JTI or any of its affiliates, including the
acquired entities, may incur after the sale with respect to any of RJRs or RJR Tobaccos
employee benefit and welfare plans; and |
|
|
|
|
any liabilities, costs and expenses incurred by JTI or any of its affiliates arising
out of certain activities of Northern Brands. |
As described above in Litigation Affecting the Cigarette Industry Other Litigation and
Developments, RJR Tobacco has received several claims for indemnification from JTI. Although RJR
and RJR Tobacco recognize that, under certain circumstances, they may have indemnification
obligations to JTI under the 1999 Purchase Agreement, RJR and RJR Tobacco disagree whether the
circumstances described in such claims give rise to any indemnification obligations by RJR and RJR
Tobacco. RJR and RJR Tobacco have conveyed their position to JTI, and the parties have agreed to
resolve their differences at a later date. RJR, including its subsidiary RJR Tobacco, have
liabilities totaling $94 million that were recorded in 1999 in connection with these
indemnification claims.
RJR Tobacco, Santa Fe, the Conwood companies and Lane have entered into agreements to
indemnify certain distributors and retailers from liability and related defense costs arising out
of the sale or distribution of their products. Additionally, Santa Fe has entered into an agreement
to indemnify a supplier from liability and related defense costs arising out of the sale or use of
Santa Fes products. The cost has been, and is expected to be, insignificant. RJR Tobacco, Santa
Fe, the Conwood companies and Lane believe that the indemnified claims are substantially similar in
nature and extent to the claims that they are already exposed to by virtue of their having
manufactured those products.
Except as otherwise noted above, RAI is not able to estimate the maximum potential amount of
future payments, if any, related to these indemnification obligations.
53
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Note 12 Shareholders Equity
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other |
|
|
Total |
|
|
|
|
|
|
Common |
|
|
Paid-In |
|
|
Accumulated |
|
|
Comprehensive |
|
|
Shareholders |
|
|
Comprehensive |
|
|
|
Stock |
|
|
Capital |
|
|
Deficit |
|
|
Loss |
|
|
Equity |
|
|
Income |
|
Balance as of December 31, 2008 |
|
$ |
|
|
|
$ |
8,463 |
|
|
$ |
(531 |
) |
|
$ |
(1,695 |
) |
|
$ |
6,237 |
|
|
|
|
|
Net income |
|
|
|
|
|
|
|
|
|
|
747 |
|
|
|
|
|
|
|
747 |
|
|
$ |
747 |
|
Retirement benefits, net of $55
million tax
expense(1) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
82 |
|
|
|
82 |
|
|
|
82 |
|
Unrealized gain on long-term
investments, net of $1 million
tax benefit |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1 |
|
|
|
1 |
|
|
|
1 |
|
Cumulative translation
adjustment, net of $9 million
tax expense |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
8 |
|
|
|
8 |
|
|
|
8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
838 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividends $2.55 per share |
|
|
|
|
|
|
|
|
|
|
(746 |
) |
|
|
|
|
|
|
(746 |
) |
|
|
|
|
Common stock repurchased |
|
|
|
|
|
|
(5 |
) |
|
|
|
|
|
|
|
|
|
|
(5 |
) |
|
|
|
|
Equity incentive award plan and
stock-based compensation |
|
|
|
|
|
|
31 |
|
|
|
|
|
|
|
|
|
|
|
31 |
|
|
|
|
|
Excess tax benefit on
stock-based compensation plans |
|
|
|
|
|
|
1 |
|
|
|
|
|
|
|
|
|
|
|
1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of September 30, 2009 |
|
$ |
|
|
|
$ |
8,490 |
|
|
$ |
(530 |
) |
|
$ |
(1,604 |
) |
|
$ |
6,356 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Includes $39 million, net of $27 million tax expense, for changes in the demographic
data used in the calculation of the long-term retirement benefits liability. |
Due to RAIs incorporation in North Carolina, which does not recognize treasury shares, the
shares repurchased are cancelled at the time of repurchase. During the first nine months of 2009,
at a cost of $5 million, RAI purchased 152,155 shares that were forfeited with respect to tax
liabilities associated with restricted stock vesting under its LTIP.
On February 3, 2009, May 6, 2009 and July 16, 2009, RAIs board of directors declared a
quarterly cash dividend of $0.85 per common share, or $3.40 on an annualized basis, to shareholders
of record as of March 10, 2009, June 10, 2009 and September 10, 2009, respectively.
Note 13 Stock Plans
In February 2009, the board of directors of RAI approved a grant, to key employees of RAI and
its subsidiaries, of nonvested share units under the LTIP, effective March 2, 2009, which will be
settled exclusively in shares of RAI common stock. The 1,382,243 units were granted based on the
average per share closing price of RAI common stock for the 60 trading days prior to the grant
date, or $39.23. These units generally will vest on March 2, 2012. Upon settlement, each grantee
will receive a number of shares of RAIs common stock equal to the product of the number of vested
units and a percentage from 0%-150% based on the average RAI annual incentive award plan score over
the three-year period ending December 31, 2011.
As an equity-based grant, compensation expense relating to the February 2009 LTIP grant will
take into account the vesting period lapsed and will be calculated based on the per share closing
price of RAI common stock on the date of grant, or $33.10. Dividends paid on shares of RAI common
stock will accumulate on the units and will be paid to the grantee on the vesting date. If RAI
fails to pay its shareholders cumulative dividends of at least $10.20 per share for the three-year
performance period ending December 31, 2011, then each award will be reduced by an amount equal to
three times the percentage of the dividend underpayment, up to a maximum reduction of 50%.
The LTIP expired on June 14, 2009. The outstanding grants made under the LTIP prior to its
expiration will remain outstanding in accordance with their terms.
In May 2009, the shareholders of RAI approved the Reynolds American Inc. 2009 Omnibus
Incentive Compensation Plan, referred to as the Omnibus Plan. Subject to adjustments as set forth
in the Omnibus Plan, the maximum number of shares of RAI common stock that may be issued with
respect to awards under the Omnibus Plan will not exceed 19,000,000 shares in the aggregate.
54
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Note 14 Segment Information
RAIs reportable operating segments are RJR Tobacco and Conwood. The RJR Tobacco segment
consists of the primary operations of R. J. Reynolds Tobacco Company. The Conwood segment consists
of Conwood Holdings, Inc., the primary operations of the Conwood companies and Lane. RAIs wholly
owned subsidiary, Santa Fe, among others, is included in All Other. The segments were identified
based on how RAIs chief operating decision maker allocates resources and assesses performance.
Some of RAIs wholly owned operating subsidiaries have entered into intercompany agreements for
products or services with other RAI operating subsidiaries. As a result, certain activities of an
operating subsidiary may be included in a different segment of RAI.
RAIs largest reportable operating segment, RJR Tobacco, is the second largest cigarette
manufacturer in the United States. RJR Tobaccos largest-selling cigarette brands, CAMEL, PALL
MALL, WINSTON, KOOL and DORAL, were five of the ten best-selling brands of cigarettes in the United
States as of September 30, 2009. Those brands, and its other brands, including SALEM, MISTY and
CAPRI, are manufactured in a variety of styles and marketed in the United States. RJR Tobacco also
manages contract manufacturing of cigarette and tobacco products through arrangements with BAT
affiliates. On January 1, 2009, the management of tobacco products sold to certain U.S.
territories, U.S. duty-free shops and U.S. overseas military bases was transferred to RJR Tobacco
from GPI.
RAIs other reportable operating segment, Conwood, is the second largest smokeless tobacco
products manufacturer in the United States. Conwoods primary brands include its largest-selling
moist snuff brands, GRIZZLY, the best-selling moist snuff brand in the United States as of
September 30, 2009, and KODIAK. Conwood launched CAMEL Dip, a premium moist snuff, in lead markets
during the second quarter of 2009. Conwoods other products include loose leaf chewing tobacco,
dry snuff, plug and twist tobacco products, as well as WINCHESTER and CAPTAIN BLACK little cigars,
and BUGLER roll-your-own tobacco.
Santa Fe manufactures and markets cigarettes and other tobacco products under the NATURAL
AMERICAN SPIRIT brand, as well as manages the super premium cigarette brands licensed from BAT,
DUNHILL and STATE EXPRESS 555. The financial position and results of operations of this operating
segment do not meet the materiality criteria to be reportable.
The amounts with respect to the income statements presented for prior periods have been
reclassified to reflect the current segment composition.
Intersegment revenues and items below the operating income line of the condensed consolidated
statements of income are not presented by segment, since they are excluded from the measure of
segment profitability reviewed by RAIs chief operating decision maker.
Segment Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months |
|
|
For the Nine Months |
|
|
|
Ended September 30, |
|
|
Ended September 30, |
|
|
|
2009 |
|
|
2008 |
|
|
2009 |
|
|
2008 |
|
Net sales: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RJR Tobacco |
|
$ |
1,867 |
|
|
$ |
1,994 |
|
|
$ |
5,513 |
|
|
$ |
5,858 |
|
Conwood |
|
|
177 |
|
|
|
181 |
|
|
|
512 |
|
|
|
536 |
|
All Other |
|
|
108 |
|
|
|
97 |
|
|
|
298 |
|
|
|
274 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated net sales |
|
$ |
2,152 |
|
|
$ |
2,272 |
|
|
$ |
6,323 |
|
|
$ |
6,668 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RJR Tobacco |
|
$ |
532 |
|
|
$ |
304 |
|
|
$ |
1,170 |
|
|
$ |
1,268 |
|
Conwood |
|
|
93 |
|
|
|
98 |
|
|
|
193 |
|
|
|
275 |
|
All Other |
|
|
36 |
|
|
|
24 |
|
|
|
85 |
|
|
|
75 |
|
Corporate expense |
|
|
(25 |
) |
|
|
(27 |
) |
|
|
(66 |
) |
|
|
(76 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Consolidated operating income |
|
$ |
636 |
|
|
$ |
399 |
|
|
$ |
1,382 |
|
|
$ |
1,542 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
55
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months |
|
|
For the Nine Months |
|
|
|
Ended September 30, |
|
|
Ended September 30, |
|
|
|
2009 |
|
|
2008 |
|
|
2009 |
|
|
2008 |
|
Reconciliation to income before income taxes: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income |
|
$ |
636 |
|
|
$ |
399 |
|
|
$ |
1,382 |
|
|
$ |
1,542 |
|
Interest and debt expense |
|
|
60 |
|
|
|
68 |
|
|
|
190 |
|
|
|
208 |
|
Interest income |
|
|
(5 |
) |
|
|
(16 |
) |
|
|
(15 |
) |
|
|
(51 |
) |
Gain on termination of joint venture |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(328 |
) |
Other expense, net |
|
|
2 |
|
|
|
13 |
|
|
|
9 |
|
|
|
3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income taxes |
|
$ |
579 |
|
|
$ |
334 |
|
|
$ |
1,198 |
|
|
$ |
1,710 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2009 |
|
|
2008 |
|
Assets: |
|
|
|
|
|
|
|
|
RJR Tobacco |
|
$ |
14,877 |
|
|
$ |
15,338 |
|
Conwood |
|
|
4,380 |
|
|
|
4,386 |
|
All Other |
|
|
1,443 |
|
|
|
1,384 |
|
Corporate |
|
|
15,505 |
|
|
|
15,647 |
|
Elimination adjustments |
|
|
(18,567 |
) |
|
|
(18,601 |
) |
|
|
|
|
|
|
|
Consolidated assets |
|
$ |
17,638 |
|
|
$ |
18,154 |
|
|
|
|
|
|
|
|
Note 15 Related Party Transactions
RAIs operating subsidiaries engage in transactions with affiliates of BAT, the indirect
parent of B&W. The following is a summary of balances and transactions with such BAT affiliates.
Balances:
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
December 31, |
|
|
2009 |
|
2008 |
Accounts receivable, BAT |
|
$ |
65 |
|
|
$ |
91 |
|
Due to BAT |
|
|
3 |
|
|
|
3 |
|
Deferred revenue, BAT |
|
|
13 |
|
|
|
50 |
|
Transactions for the nine months ended September 30:
|
|
|
|
|
|
|
|
|
|
|
2009 |
|
2008 |
Net sales, related party, BAT |
|
$ |
306 |
|
|
$ |
338 |
|
Research and development services billed to BAT |
|
|
2 |
|
|
|
2 |
|
Purchases from BAT |
|
|
10 |
|
|
|
11 |
|
Equipment lease payments to BAT |
|
|
1 |
|
|
|
|
|
RAIs operating subsidiaries sell contract-manufactured cigarettes, processed strip leaf, pipe
tobacco and little cigars to BAT affiliates. Pricing for contract-manufactured cigarettes is
generally calculated based on 2004 prices, using B&Ws forecasted 2004 manufacturing costs plus
10%, increased by a multiple equal to the increase in the Producer Price Index for subsequent
years, reported by the U.S. Bureau of Labor Statistics. Net sales to BAT affiliates, primarily
cigarettes, represented approximately 5.0% of RAIs total net sales during the nine months ended
September 30, 2009.
RJR Tobacco records deferred sales revenue relating to leaf sold to BAT affiliates that has
not been delivered as of the end of the respective quarter, given that RJR Tobacco has a legal
right to bill the BAT affiliates. Leaf sales revenue to BAT affiliates is recognized when the
product is shipped to the customer.
56
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
RJR Tobacco performs certain research and development for BAT affiliates pursuant to a joint
technology sharing agreement entered into as a part of the B&W business combination. These services
were accrued and billed to BAT affiliates and were recorded in RJR Tobaccos selling, general and
administrative expenses, net of associated costs.
RAIs operating subsidiaries also purchase unprocessed leaf at market prices, and import
cigarettes at prices not to exceed manufacturing costs plus 10%, from BAT affiliates. The payable
due to related party in the condensed consolidated balance sheet (unaudited) primarily relates to
cigarette purchases.
RJR Tobacco leases certain cigarette manufacturing equipment from a BAT affiliate.
RJR Tobacco recorded in selling, general and administrative expenses, funds to indemnify B&W
and its affiliates for costs and expenses related to tobacco-related litigation in the United
States. For additional information relating to this indemnification, see note 11.
57
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Note 16 RAI Guaranteed, Unsecured Notes Condensed Consolidating Financial Statements
The following condensed consolidating financial statements have been prepared pursuant to
Rule 3-10 of Regulation S-X, relating to the guaranties of RAIs $4.3 billion unsecured notes.
RAIs direct, wholly owned subsidiaries and certain of its indirectly owned subsidiaries have fully
and unconditionally and jointly and severally, guaranteed these notes. The following condensed
consolidating financial statements include: the accounts and activities of RAI, the parent issuer;
RJR, RJR Tobacco, the Conwood companies, Conwood Holdings, Inc., Santa Fe, Lane, GPI and certain of
RJR Tobaccos other subsidiaries, the Guarantors; other indirect subsidiaries of RAI that are not
Guarantors; and elimination adjustments.
Condensed Consolidating Statements of Income
(Dollars in Millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent |
|
|
|
|
|
|
Non- |
|
|
|
|
|
|
|
|
|
Issuer |
|
|
Guarantors |
|
|
Guarantors |
|
|
Eliminations |
|
|
Consolidated |
|
For the Three Months Ended September 30, 2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
$ |
|
|
|
$ |
2,035 |
|
|
$ |
40 |
|
|
$ |
(30 |
) |
|
$ |
2,045 |
|
Net sales, related party |
|
|
|
|
|
|
107 |
|
|
|
|
|
|
|
|
|
|
|
107 |
|
Cost of products sold |
|
|
|
|
|
|
1,149 |
|
|
|
19 |
|
|
|
(30 |
) |
|
|
1,138 |
|
Selling, general and administrative expenses |
|
|
|
|
|
|
354 |
|
|
|
17 |
|
|
|
|
|
|
|
371 |
|
Amortization expense |
|
|
|
|
|
|
7 |
|
|
|
|
|
|
|
|
|
|
|
7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss) |
|
|
|
|
|
|
632 |
|
|
|
4 |
|
|
|
|
|
|
|
636 |
|
Interest and debt expense |
|
|
58 |
|
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
60 |
|
Interest income |
|
|
|
|
|
|
(2 |
) |
|
|
(3 |
) |
|
|
|
|
|
|
(5 |
) |
Intercompany interest (income) expense |
|
|
(30 |
) |
|
|
29 |
|
|
|
1 |
|
|
|
|
|
|
|
|
|
Intercompany dividend income |
|
|
|
|
|
|
(11 |
) |
|
|
|
|
|
|
11 |
|
|
|
|
|
Other (income) expense, net |
|
|
(9 |
) |
|
|
11 |
|
|
|
|
|
|
|
|
|
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes |
|
|
(19 |
) |
|
|
603 |
|
|
|
6 |
|
|
|
(11 |
) |
|
|
579 |
|
Provision for (benefit from) income taxes |
|
|
(8 |
) |
|
|
224 |
|
|
|
1 |
|
|
|
|
|
|
|
217 |
|
Equity income from subsidiaries |
|
|
373 |
|
|
|
6 |
|
|
|
|
|
|
|
(379 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
362 |
|
|
$ |
385 |
|
|
$ |
5 |
|
|
$ |
(390 |
) |
|
$ |
362 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended September 30, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
$ |
|
|
|
$ |
2,148 |
|
|
$ |
41 |
|
|
$ |
(33 |
) |
|
$ |
2,156 |
|
Net sales, related party |
|
|
|
|
|
|
116 |
|
|
|
|
|
|
|
|
|
|
|
116 |
|
Cost of products sold |
|
|
|
|
|
|
1,242 |
|
|
|
20 |
|
|
|
(33 |
) |
|
|
1,229 |
|
Selling, general and administrative expenses |
|
|
8 |
|
|
|
349 |
|
|
|
18 |
|
|
|
|
|
|
|
375 |
|
Amortization expense |
|
|
|
|
|
|
5 |
|
|
|
|
|
|
|
|
|
|
|
5 |
|
Restructuring charge |
|
|
6 |
|
|
|
81 |
|
|
|
4 |
|
|
|
|
|
|
|
91 |
|
Trademark impairment charge |
|
|
|
|
|
|
173 |
|
|
|
|
|
|
|
|
|
|
|
173 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss) |
|
|
(14 |
) |
|
|
414 |
|
|
|
(1 |
) |
|
|
|
|
|
|
399 |
|
Interest and debt expense |
|
|
65 |
|
|
|
2 |
|
|
|
1 |
|
|
|
|
|
|
|
68 |
|
Interest income |
|
|
|
|
|
|
(10 |
) |
|
|
(6 |
) |
|
|
|
|
|
|
(16 |
) |
Intercompany interest (income) expense |
|
|
(23 |
) |
|
|
22 |
|
|
|
1 |
|
|
|
|
|
|
|
|
|
Intercompany dividend income |
|
|
|
|
|
|
(11 |
) |
|
|
|
|
|
|
11 |
|
|
|
|
|
Other expense, net |
|
|
1 |
|
|
|
11 |
|
|
|
1 |
|
|
|
|
|
|
|
13 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes |
|
|
(57 |
) |
|
|
400 |
|
|
|
2 |
|
|
|
(11 |
) |
|
|
334 |
|
Provision for (benefit from) income taxes |
|
|
(21 |
) |
|
|
144 |
|
|
|
|
|
|
|
|
|
|
|
123 |
|
Equity income from subsidiaries |
|
|
247 |
|
|
|
3 |
|
|
|
|
|
|
|
(250 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
211 |
|
|
$ |
259 |
|
|
$ |
2 |
|
|
$ |
(261 |
) |
|
$ |
211 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
58
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Condensed Consolidating Statements of Income
(Dollars in Millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent |
|
|
|
|
|
|
Non- |
|
|
|
|
|
|
|
|
|
Issuer |
|
|
Guarantors |
|
|
Guarantors |
|
|
Eliminations |
|
|
Consolidated |
|
For the Nine Months Ended September 30, 2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
$ |
|
|
|
$ |
5,998 |
|
|
$ |
120 |
|
|
$ |
(101 |
) |
|
$ |
6,017 |
|
Net sales, related party |
|
|
|
|
|
|
306 |
|
|
|
|
|
|
|
|
|
|
|
306 |
|
Cost of products sold |
|
|
|
|
|
|
3,378 |
|
|
|
59 |
|
|
|
(100 |
) |
|
|
3,337 |
|
Selling, general and administrative expenses |
|
|
10 |
|
|
|
1,070 |
|
|
|
49 |
|
|
|
|
|
|
|
1,129 |
|
Amortization expense |
|
|
|
|
|
|
22 |
|
|
|
|
|
|
|
|
|
|
|
22 |
|
Trademark impairment charge |
|
|
|
|
|
|
453 |
|
|
|
|
|
|
|
|
|
|
|
453 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss) |
|
|
(10 |
) |
|
|
1,381 |
|
|
|
12 |
|
|
|
(1 |
) |
|
|
1,382 |
|
Interest and debt expense |
|
|
183 |
|
|
|
7 |
|
|
|
|
|
|
|
|
|
|
|
190 |
|
Interest income |
|
|
|
|
|
|
(7 |
) |
|
|
(8 |
) |
|
|
|
|
|
|
(15 |
) |
Intercompany interest (income) expense |
|
|
(85 |
) |
|
|
84 |
|
|
|
1 |
|
|
|
|
|
|
|
|
|
Intercompany dividend income |
|
|
|
|
|
|
(32 |
) |
|
|
|
|
|
|
32 |
|
|
|
|
|
Other (income) expense, net |
|
|
(3 |
) |
|
|
12 |
|
|
|
|
|
|
|
|
|
|
|
9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes |
|
|
(105 |
) |
|
|
1,317 |
|
|
|
19 |
|
|
|
(33 |
) |
|
|
1,198 |
|
Provision for (benefit from) income taxes |
|
|
(38 |
) |
|
|
488 |
|
|
|
1 |
|
|
|
|
|
|
|
451 |
|
Equity income from subsidiaries |
|
|
814 |
|
|
|
20 |
|
|
|
|
|
|
|
(834 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
747 |
|
|
$ |
849 |
|
|
$ |
18 |
|
|
$ |
(867 |
) |
|
$ |
747 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Nine Months Ended September 30, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
$ |
|
|
|
$ |
6,307 |
|
|
$ |
117 |
|
|
$ |
(94 |
) |
|
$ |
6,330 |
|
Net sales, related party |
|
|
|
|
|
|
338 |
|
|
|
|
|
|
|
|
|
|
|
338 |
|
Cost of products sold |
|
|
|
|
|
|
3,737 |
|
|
|
55 |
|
|
|
(94 |
) |
|
|
3,698 |
|
Selling, general and administrative expenses |
|
|
17 |
|
|
|
1,082 |
|
|
|
49 |
|
|
|
|
|
|
|
1,148 |
|
Amortization expense |
|
|
|
|
|
|
16 |
|
|
|
|
|
|
|
|
|
|
|
16 |
|
Restructuring charge |
|
|
6 |
|
|
|
81 |
|
|
|
4 |
|
|
|
|
|
|
|
91 |
|
Trademark impairment charge |
|
|
|
|
|
|
173 |
|
|
|
|
|
|
|
|
|
|
|
173 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss) |
|
|
(23 |
) |
|
|
1,556 |
|
|
|
9 |
|
|
|
|
|
|
|
1,542 |
|
Interest and debt expense |
|
|
200 |
|
|
|
7 |
|
|
|
1 |
|
|
|
|
|
|
|
208 |
|
Interest income |
|
|
(1 |
) |
|
|
(38 |
) |
|
|
(12 |
) |
|
|
|
|
|
|
(51 |
) |
Intercompany interest (income) expense |
|
|
(63 |
) |
|
|
59 |
|
|
|
4 |
|
|
|
|
|
|
|
|
|
Intercompany dividend income |
|
|
|
|
|
|
(32 |
) |
|
|
|
|
|
|
32 |
|
|
|
|
|
Gain on termination of joint venture |
|
|
|
|
|
|
|
|
|
|
(328 |
) |
|
|
|
|
|
|
(328 |
) |
Other expense, net |
|
|
3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes |
|
|
(162 |
) |
|
|
1,560 |
|
|
|
344 |
|
|
|
(32 |
) |
|
|
1,710 |
|
Provision for (benefit from) income taxes |
|
|
(57 |
) |
|
|
686 |
|
|
|
1 |
|
|
|
|
|
|
|
630 |
|
Equity income from subsidiaries |
|
|
1,185 |
|
|
|
344 |
|
|
|
|
|
|
|
(1,529 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
1,080 |
|
|
$ |
1,218 |
|
|
$ |
343 |
|
|
$ |
(1,561 |
) |
|
$ |
1,080 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
59
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Condensed Consolidating Statements of Cash Flows
(Dollars in Millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent |
|
|
|
|
|
|
Non- |
|
|
|
|
|
|
|
|
|
Issuer |
|
|
Guarantors |
|
|
Guarantors |
|
|
Eliminations |
|
|
Consolidated |
|
For the Nine Months Ended September 30, 2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from operating activities |
|
$ |
274 |
|
|
$ |
1,071 |
|
|
$ |
16 |
|
|
$ |
(472 |
) |
|
$ |
889 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from (used in) investing activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from settlement of short-term investments |
|
|
1 |
|
|
|
16 |
|
|
|
|
|
|
|
|
|
|
|
17 |
|
Capital expenditures |
|
|
|
|
|
|
(72 |
) |
|
|
(3 |
) |
|
|
|
|
|
|
(75 |
) |
Proceeds from termination of joint venture |
|
|
|
|
|
|
|
|
|
|
24 |
|
|
|
|
|
|
|
24 |
|
Other, net |
|
|
|
|
|
|
17 |
|
|
|
|
|
|
|
|
|
|
|
17 |
|
Intercompany investments |
|
|
610 |
|
|
|
(610 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Intercompany notes receivable |
|
|
40 |
|
|
|
17 |
|
|
|
|
|
|
|
(57 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash flows from (used in) investing activities |
|
|
651 |
|
|
|
(632 |
) |
|
|
21 |
|
|
|
(57 |
) |
|
|
(17 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from (used in) financing activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividends paid on common stock |
|
|
(743 |
) |
|
|
(440 |
) |
|
|
|
|
|
|
440 |
|
|
|
(743 |
) |
Repayment of long-term debt |
|
|
(189 |
) |
|
|
(11 |
) |
|
|
|
|
|
|
|
|
|
|
(200 |
) |
Excess tax benefit from stock-based compensation |
|
|
1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1 |
|
Repurchase of common stock |
|
|
(5 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(5 |
) |
Other, net |
|
|
1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1 |
|
Dividends paid on preferred stock |
|
|
(32 |
) |
|
|
|
|
|
|
|
|
|
|
32 |
|
|
|
|
|
Intercompany notes payable |
|
|
(17 |
) |
|
|
(40 |
) |
|
|
|
|
|
|
57 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash flows used in financing activities |
|
|
(984 |
) |
|
|
(491 |
) |
|
|
|
|
|
|
529 |
|
|
|
(946 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effect of exchange rate changes on cash and cash
equivalents |
|
|
|
|
|
|
|
|
|
|
9 |
|
|
|
|
|
|
|
9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net change in cash and cash equivalents |
|
|
(59 |
) |
|
|
(52 |
) |
|
|
46 |
|
|
|
|
|
|
|
(65 |
) |
Cash and cash equivalents at beginning of period |
|
|
272 |
|
|
|
2,091 |
|
|
|
215 |
|
|
|
|
|
|
|
2,578 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period |
|
$ |
213 |
|
|
$ |
2,039 |
|
|
$ |
261 |
|
|
$ |
|
|
|
$ |
2,513 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
60
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Condensed Consolidating Statements of Cash Flows
(Dollars in Millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent |
|
|
|
|
|
|
Non- |
|
|
|
|
|
|
|
|
|
Issuer |
|
|
Guarantors |
|
|
Guarantors |
|
|
Eliminations |
|
|
Consolidated |
|
For the Nine Months Ended September 30, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from operating activities |
|
$ |
649 |
|
|
$ |
899 |
|
|
$ |
32 |
|
|
$ |
(752 |
) |
|
$ |
828 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from (used in) investing activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from settlement of short-term investments |
|
|
|
|
|
|
208 |
|
|
|
|
|
|
|
|
|
|
|
208 |
|
Capital expenditures |
|
|
|
|
|
|
(90 |
) |
|
|
(5 |
) |
|
|
|
|
|
|
(95 |
) |
Proceeds from termination of joint venture |
|
|
|
|
|
|
|
|
|
|
164 |
|
|
|
|
|
|
|
164 |
|
Other, net |
|
|
(8 |
) |
|
|
(33 |
) |
|
|
28 |
|
|
|
|
|
|
|
(13 |
) |
Intercompany notes receivable |
|
|
40 |
|
|
|
(28 |
) |
|
|
|
|
|
|
(12 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash flows from investing activities |
|
|
32 |
|
|
|
57 |
|
|
|
187 |
|
|
|
(12 |
) |
|
|
264 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from (used in) financing activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividends paid on common stock |
|
|
(752 |
) |
|
|
(720 |
) |
|
|
|
|
|
|
720 |
|
|
|
(752 |
) |
Excess tax benefit from stock-based compensation |
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2 |
|
Proceeds from stock options exercised |
|
|
1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1 |
|
Repurchase of common stock |
|
|
(207 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(207 |
) |
Other, net |
|
|
1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1 |
|
Dividends paid on preferred stock |
|
|
(32 |
) |
|
|
|
|
|
|
|
|
|
|
32 |
|
|
|
|
|
Intercompany notes payable |
|
|
98 |
|
|
|
(40 |
) |
|
|
(70 |
) |
|
|
12 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash flows used in financing activities |
|
|
(889 |
) |
|
|
(760 |
) |
|
|
(70 |
) |
|
|
764 |
|
|
|
(955 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effect of exchange rate changes on cash and cash
equivalents |
|
|
|
|
|
|
|
|
|
|
(23 |
) |
|
|
|
|
|
|
(23 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net change in cash and cash equivalents |
|
|
(208 |
) |
|
|
196 |
|
|
|
126 |
|
|
|
|
|
|
|
114 |
|
Cash and cash equivalents at beginning of period |
|
|
243 |
|
|
|
1,885 |
|
|
|
87 |
|
|
|
|
|
|
|
2,215 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period |
|
$ |
35 |
|
|
$ |
2,081 |
|
|
$ |
213 |
|
|
$ |
|
|
|
$ |
2,329 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
61
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Condensed Consolidating Balance Sheets
(Dollars in Millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent |
|
|
|
|
|
|
Non- |
|
|
|
|
|
|
|
|
|
Issuer |
|
|
Guarantors |
|
|
Guarantors |
|
|
Eliminations |
|
|
Consolidated |
|
September 30, 2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
213 |
|
|
$ |
2,039 |
|
|
$ |
261 |
|
|
$ |
|
|
|
$ |
2,513 |
|
Short-term investments |
|
|
1 |
|
|
|
5 |
|
|
|
|
|
|
|
|
|
|
|
6 |
|
Accounts receivable, net |
|
|
|
|
|
|
77 |
|
|
|
16 |
|
|
|
|
|
|
|
93 |
|
Accounts receivable, related party |
|
|
|
|
|
|
65 |
|
|
|
|
|
|
|
|
|
|
|
65 |
|
Notes receivable |
|
|
|
|
|
|
1 |
|
|
|
34 |
|
|
|
|
|
|
|
35 |
|
Other receivables |
|
|
4 |
|
|
|
10 |
|
|
|
1 |
|
|
|
|
|
|
|
15 |
|
Inventories |
|
|
|
|
|
|
1,063 |
|
|
|
35 |
|
|
|
(3 |
) |
|
|
1,095 |
|
Deferred income taxes, net |
|
|
9 |
|
|
|
902 |
|
|
|
1 |
|
|
|
|
|
|
|
912 |
|
Prepaid expenses and other |
|
|
7 |
|
|
|
339 |
|
|
|
|
|
|
|
(4 |
) |
|
|
342 |
|
Short-term intercompany notes and interest receivable |
|
|
80 |
|
|
|
58 |
|
|
|
|
|
|
|
(138 |
) |
|
|
|
|
Other intercompany receivables |
|
|
259 |
|
|
|
|
|
|
|
15 |
|
|
|
(274 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current assets |
|
|
573 |
|
|
|
4,559 |
|
|
|
363 |
|
|
|
(419 |
) |
|
|
5,076 |
|
Property, plant and equipment, net |
|
|
7 |
|
|
|
956 |
|
|
|
27 |
|
|
|
|
|
|
|
990 |
|
Trademarks and other intangible assets, net |
|
|
|
|
|
|
2,791 |
|
|
|
4 |
|
|
|
|
|
|
|
2,795 |
|
Goodwill |
|
|
|
|
|
|
8,166 |
|
|
|
8 |
|
|
|
|
|
|
|
8,174 |
|
Long-term intercompany notes |
|
|
2,040 |
|
|
|
1,387 |
|
|
|
|
|
|
|
(3,427 |
) |
|
|
|
|
Investment in subsidiaries |
|
|
9,653 |
|
|
|
467 |
|
|
|
|
|
|
|
(10,120 |
) |
|
|
|
|
Other assets and deferred charges |
|
|
312 |
|
|
|
182 |
|
|
|
138 |
|
|
|
(29 |
) |
|
|
603 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets |
|
$ |
12,585 |
|
|
$ |
18,508 |
|
|
$ |
540 |
|
|
$ |
(13,995 |
) |
|
$ |
17,638 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities and shareholders equity |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tobacco settlement accruals |
|
$ |
|
|
|
$ |
2,396 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
2,396 |
|
Accounts payable and other accrued liabilities |
|
|
396 |
|
|
|
783 |
|
|
|
34 |
|
|
|
(4 |
) |
|
|
1,209 |
|
Due to related party |
|
|
|
|
|
|
3 |
|
|
|
|
|
|
|
|
|
|
|
3 |
|
Deferred revenue, related party |
|
|
|
|
|
|
13 |
|
|
|
|
|
|
|
|
|
|
|
13 |
|
Current maturities of long-term debt |
|
|
300 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
300 |
|
Short-term intercompany notes and interest payable |
|
|
32 |
|
|
|
81 |
|
|
|
25 |
|
|
|
(138 |
) |
|
|
|
|
Other intercompany payables |
|
|
|
|
|
|
274 |
|
|
|
|
|
|
|
(274 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
728 |
|
|
|
3,550 |
|
|
|
59 |
|
|
|
(416 |
) |
|
|
3,921 |
|
Intercompany notes and interest payable |
|
|
1,387 |
|
|
|
2,040 |
|
|
|
|
|
|
|
(3,427 |
) |
|
|
|
|
Long-term debt (less current maturities) |
|
|
4,022 |
|
|
|
122 |
|
|
|
|
|
|
|
|
|
|
|
4,144 |
|
Deferred income taxes, net |
|
|
|
|
|
|
263 |
|
|
|
|
|
|
|
(30 |
) |
|
|
233 |
|
Long-term retirement benefits (less current portion) |
|
|
73 |
|
|
|
2,525 |
|
|
|
16 |
|
|
|
|
|
|
|
2,614 |
|
Other noncurrent liabilities |
|
|
19 |
|
|
|
350 |
|
|
|
1 |
|
|
|
|
|
|
|
370 |
|
Shareholders equity |
|
|
6,356 |
|
|
|
9,658 |
|
|
|
464 |
|
|
|
(10,122 |
) |
|
|
6,356 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and shareholders equity |
|
$ |
12,585 |
|
|
$ |
18,508 |
|
|
$ |
540 |
|
|
$ |
(13,995 |
) |
|
$ |
17,638 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
62
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Condensed Consolidating Balance Sheets
(Dollars in Millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent |
|
|
|
|
|
|
Non- |
|
|
|
|
|
|
|
|
|
Issuer |
|
|
Guarantors |
|
|
Guarantors |
|
|
Eliminations |
|
|
Consolidated |
|
December 31, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
272 |
|
|
$ |
2,091 |
|
|
$ |
215 |
|
|
$ |
|
|
|
$ |
2,578 |
|
Short-term investments |
|
|
1 |
|
|
|
22 |
|
|
|
|
|
|
|
|
|
|
|
23 |
|
Accounts receivable, net |
|
|
|
|
|
|
68 |
|
|
|
16 |
|
|
|
|
|
|
|
84 |
|
Accounts receivable, related party |
|
|
|
|
|
|
91 |
|
|
|
|
|
|
|
|
|
|
|
91 |
|
Notes receivable |
|
|
|
|
|
|
1 |
|
|
|
34 |
|
|
|
|
|
|
|
35 |
|
Other receivables |
|
|
9 |
|
|
|
27 |
|
|
|
1 |
|
|
|
|
|
|
|
37 |
|
Inventories |
|
|
|
|
|
|
1,145 |
|
|
|
27 |
|
|
|
(2 |
) |
|
|
1,170 |
|
Deferred income taxes, net |
|
|
12 |
|
|
|
825 |
|
|
|
1 |
|
|
|
|
|
|
|
838 |
|
Prepaid expenses and other |
|
|
35 |
|
|
|
128 |
|
|
|
4 |
|
|
|
(4 |
) |
|
|
163 |
|
Short-term intercompany notes and interest receivable |
|
|
81 |
|
|
|
65 |
|
|
|
|
|
|
|
(146 |
) |
|
|
|
|
Other intercompany receivables |
|
|
68 |
|
|
|
|
|
|
|
6 |
|
|
|
(74 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current assets |
|
|
478 |
|
|
|
4,463 |
|
|
|
304 |
|
|
|
(226 |
) |
|
|
5,019 |
|
Property, plant and equipment, net |
|
|
7 |
|
|
|
999 |
|
|
|
25 |
|
|
|
|
|
|
|
1,031 |
|
Trademarks and other intangible assets, net |
|
|
|
|
|
|
3,266 |
|
|
|
4 |
|
|
|
|
|
|
|
3,270 |
|
Goodwill |
|
|
|
|
|
|
8,166 |
|
|
|
8 |
|
|
|
|
|
|
|
8,174 |
|
Long-term intercompany notes |
|
|
2,080 |
|
|
|
1,409 |
|
|
|
|
|
|
|
(3,489 |
) |
|
|
|
|
Investment in subsidiaries |
|
|
9,751 |
|
|
|
430 |
|
|
|
|
|
|
|
(10,181 |
) |
|
|
|
|
Other assets and deferred charges |
|
|
349 |
|
|
|
180 |
|
|
|
160 |
|
|
|
(29 |
) |
|
|
660 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets |
|
$ |
12,665 |
|
|
$ |
18,913 |
|
|
$ |
501 |
|
|
$ |
(13,925 |
) |
|
$ |
18,154 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities and shareholders equity |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tobacco settlement accruals |
|
$ |
|
|
|
$ |
2,321 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
2,321 |
|
Accounts payable and other accrued liabilities |
|
|
350 |
|
|
|
974 |
|
|
|
29 |
|
|
|
(4 |
) |
|
|
1,349 |
|
Due to related party |
|
|
|
|
|
|
3 |
|
|
|
|
|
|
|
|
|
|
|
3 |
|
Deferred revenue, related party |
|
|
|
|
|
|
50 |
|
|
|
|
|
|
|
|
|
|
|
50 |
|
Current maturities of long-term debt |
|
|
189 |
|
|
|
11 |
|
|
|
|
|
|
|
|
|
|
|
200 |
|
Short-term intercompany notes and interest payable |
|
|
40 |
|
|
|
81 |
|
|
|
25 |
|
|
|
(146 |
) |
|
|
|
|
Other intercompany payables |
|
|
|
|
|
|
74 |
|
|
|
|
|
|
|
(74 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
579 |
|
|
|
3,514 |
|
|
|
54 |
|
|
|
(224 |
) |
|
|
3,923 |
|
Intercompany notes and interest payable |
|
|
1,409 |
|
|
|
2,080 |
|
|
|
|
|
|
|
(3,489 |
) |
|
|
|
|
Long-term debt (less current maturities) |
|
|
4,362 |
|
|
|
124 |
|
|
|
|
|
|
|
|
|
|
|
4,486 |
|
Deferred income taxes, net |
|
|
|
|
|
|
311 |
|
|
|
|
|
|
|
(29 |
) |
|
|
282 |
|
Long-term retirement benefits (less current portion) |
|
|
64 |
|
|
|
2,755 |
|
|
|
17 |
|
|
|
|
|
|
|
2,836 |
|
Other noncurrent liabilities |
|
|
14 |
|
|
|
375 |
|
|
|
1 |
|
|
|
|
|
|
|
390 |
|
Shareholders equity |
|
|
6,237 |
|
|
|
9,754 |
|
|
|
429 |
|
|
|
(10,183 |
) |
|
|
6,237 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and shareholders equity |
|
$ |
12,665 |
|
|
$ |
18,913 |
|
|
$ |
501 |
|
|
$ |
(13,925 |
) |
|
$ |
18,154 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
63
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Note 17 RJR Guaranteed, Unsecured Notes Condensed Consolidating Financial Statements
The following condensed consolidating financial statements have been prepared pursuant to
Rule 3-10 of Regulation S-X, relating to the guaranties of RJRs $63 million unsecured notes. RAI
and certain of its direct or indirect, wholly owned subsidiaries, have fully and unconditionally,
and jointly and severally, guaranteed these notes. The following condensed consolidating financial
statements include: the accounts and activities of RAI, the parent Guarantor; RJR, the issuer of
the debt securities; RJR Tobacco, GPI and certain of RJRs other subsidiaries, the other
Guarantors; other subsidiaries of RAI and RJR, including Santa Fe, Lane and the Conwood companies,
that are not Guarantors; and elimination adjustments.
64
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Condensed Consolidating Statements of Income
(Dollars in Millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent |
|
|
|
|
|
|
Other |
|
|
Non- |
|
|
|
|
|
|
|
|
|
Guarantor |
|
|
Issuer |
|
|
Guarantors |
|
|
Guarantors |
|
|
Eliminations |
|
|
Consolidated |
|
For the Three Months Ended September 30,
2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
$ |
|
|
|
$ |
|
|
|
$ |
1,790 |
|
|
$ |
295 |
|
|
$ |
(40 |
) |
|
$ |
2,045 |
|
Net sales, related party |
|
|
|
|
|
|
|
|
|
|
106 |
|
|
|
1 |
|
|
|
|
|
|
|
107 |
|
Cost of products sold |
|
|
|
|
|
|
|
|
|
|
1,080 |
|
|
|
99 |
|
|
|
(41 |
) |
|
|
1,138 |
|
Selling, general and administrative expenses |
|
|
|
|
|
|
1 |
|
|
|
292 |
|
|
|
78 |
|
|
|
|
|
|
|
371 |
|
Amortization expense |
|
|
|
|
|
|
|
|
|
|
7 |
|
|
|
|
|
|
|
|
|
|
|
7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss) |
|
|
|
|
|
|
(1 |
) |
|
|
517 |
|
|
|
119 |
|
|
|
1 |
|
|
|
636 |
|
Interest and debt expense |
|
|
58 |
|
|
|
3 |
|
|
|
|
|
|
|
(1 |
) |
|
|
|
|
|
|
60 |
|
Interest income |
|
|
|
|
|
|
|
|
|
|
(2 |
) |
|
|
(3 |
) |
|
|
|
|
|
|
(5 |
) |
Intercompany interest (income) expense |
|
|
(30 |
) |
|
|
(1 |
) |
|
|
(12 |
) |
|
|
43 |
|
|
|
|
|
|
|
|
|
Intercompany dividend income |
|
|
|
|
|
|
(11 |
) |
|
|
|
|
|
|
|
|
|
|
11 |
|
|
|
|
|
Other (income) expense, net |
|
|
(9 |
) |
|
|
12 |
|
|
|
(1 |
) |
|
|
|
|
|
|
|
|
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes |
|
|
(19 |
) |
|
|
(4 |
) |
|
|
532 |
|
|
|
80 |
|
|
|
(10 |
) |
|
|
579 |
|
Provision for (benefit from) income taxes |
|
|
(8 |
) |
|
|
(5 |
) |
|
|
204 |
|
|
|
26 |
|
|
|
|
|
|
|
217 |
|
Equity income from subsidiaries |
|
|
373 |
|
|
|
333 |
|
|
|
6 |
|
|
|
|
|
|
|
(712 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
362 |
|
|
$ |
334 |
|
|
$ |
334 |
|
|
$ |
54 |
|
|
$ |
(722 |
) |
|
$ |
362 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended September 30,
2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
$ |
|
|
|
$ |
|
|
|
$ |
1,923 |
|
|
$ |
291 |
|
|
$ |
(58 |
) |
|
$ |
2,156 |
|
Net sales, related party |
|
|
|
|
|
|
|
|
|
|
114 |
|
|
|
2 |
|
|
|
|
|
|
|
116 |
|
Cost of products sold |
|
|
|
|
|
|
|
|
|
|
1,186 |
|
|
|
101 |
|
|
|
(58 |
) |
|
|
1,229 |
|
Selling, general and administrative expenses |
|
|
8 |
|
|
|
|
|
|
|
302 |
|
|
|
65 |
|
|
|
|
|
|
|
375 |
|
Amortization expense |
|
|
|
|
|
|
|
|
|
|
6 |
|
|
|
(1 |
) |
|
|
|
|
|
|
5 |
|
Restructuring charge |
|
|
6 |
|
|
|
|
|
|
|
81 |
|
|
|
4 |
|
|
|
|
|
|
|
91 |
|
Trademark impairment charge |
|
|
|
|
|
|
|
|
|
|
173 |
|
|
|
|
|
|
|
|
|
|
|
173 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss) |
|
|
(14 |
) |
|
|
|
|
|
|
289 |
|
|
|
124 |
|
|
|
|
|
|
|
399 |
|
Interest and debt expense |
|
|
65 |
|
|
|
2 |
|
|
|
|
|
|
|
1 |
|
|
|
|
|
|
|
68 |
|
Interest income |
|
|
|
|
|
|
(1 |
) |
|
|
(10 |
) |
|
|
(5 |
) |
|
|
|
|
|
|
(16 |
) |
Intercompany interest (income) expense |
|
|
(23 |
) |
|
|
(1 |
) |
|
|
(22 |
) |
|
|
46 |
|
|
|
|
|
|
|
|
|
Intercompany dividend income |
|
|
|
|
|
|
(11 |
) |
|
|
|
|
|
|
|
|
|
|
11 |
|
|
|
|
|
Other expense, net |
|
|
1 |
|
|
|
10 |
|
|
|
1 |
|
|
|
1 |
|
|
|
|
|
|
|
13 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes |
|
|
(57 |
) |
|
|
1 |
|
|
|
320 |
|
|
|
81 |
|
|
|
(11 |
) |
|
|
334 |
|
Provision for (benefit from) income taxes |
|
|
(21 |
) |
|
|
(5 |
) |
|
|
123 |
|
|
|
26 |
|
|
|
|
|
|
|
123 |
|
Equity income from subsidiaries |
|
|
247 |
|
|
|
200 |
|
|
|
4 |
|
|
|
|
|
|
|
(451 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
211 |
|
|
$ |
206 |
|
|
$ |
201 |
|
|
$ |
55 |
|
|
$ |
(462 |
) |
|
$ |
211 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
65
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Condensed Consolidating Statements of Income
(Dollars in Millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent |
|
|
|
|
|
|
Other |
|
|
Non- |
|
|
|
|
|
|
|
|
|
Guarantor |
|
|
Issuer |
|
|
Guarantors |
|
|
Guarantors |
|
|
Eliminations |
|
|
Consolidated |
|
For the Nine Months Ended September 30, 2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
$ |
|
|
|
$ |
|
|
|
$ |
5,319 |
|
|
$ |
854 |
|
|
$ |
(156 |
) |
|
$ |
6,017 |
|
Net sales, related party |
|
|
|
|
|
|
|
|
|
|
299 |
|
|
|
7 |
|
|
|
|
|
|
|
306 |
|
Cost of products sold |
|
|
|
|
|
|
|
|
|
|
3,195 |
|
|
|
298 |
|
|
|
(156 |
) |
|
|
3,337 |
|
Selling, general and administrative expenses |
|
|
10 |
|
|
|
2 |
|
|
|
896 |
|
|
|
221 |
|
|
|
|
|
|
|
1,129 |
|
Amortization expense |
|
|
|
|
|
|
|
|
|
|
21 |
|
|
|
1 |
|
|
|
|
|
|
|
22 |
|
Trademark impairment charge |
|
|
|
|
|
|
|
|
|
|
377 |
|
|
|
76 |
|
|
|
|
|
|
|
453 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss) |
|
|
(10 |
) |
|
|
(2 |
) |
|
|
1,129 |
|
|
|
265 |
|
|
|
|
|
|
|
1,382 |
|
Interest and debt expense |
|
|
183 |
|
|
|
7 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
190 |
|
Interest income |
|
|
|
|
|
|
|
|
|
|
(6 |
) |
|
|
(9 |
) |
|
|
|
|
|
|
(15 |
) |
Intercompany interest (income) expense |
|
|
(85 |
) |
|
|
(5 |
) |
|
|
(39 |
) |
|
|
129 |
|
|
|
|
|
|
|
|
|
Intercompany dividend income |
|
|
|
|
|
|
(32 |
) |
|
|
|
|
|
|
|
|
|
|
32 |
|
|
|
|
|
Other (income) expense, net |
|
|
(3 |
) |
|
|
12 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes |
|
|
(105 |
) |
|
|
16 |
|
|
|
1,174 |
|
|
|
145 |
|
|
|
(32 |
) |
|
|
1,198 |
|
Provision for (benefit from) income taxes |
|
|
(38 |
) |
|
|
(5 |
) |
|
|
452 |
|
|
|
42 |
|
|
|
|
|
|
|
451 |
|
Equity income from subsidiaries |
|
|
814 |
|
|
|
740 |
|
|
|
18 |
|
|
|
|
|
|
|
(1,572 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
747 |
|
|
$ |
761 |
|
|
$ |
740 |
|
|
$ |
103 |
|
|
$ |
(1,604 |
) |
|
$ |
747 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Nine Months Ended September 30, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
$ |
|
|
|
$ |
|
|
|
$ |
5,646 |
|
|
$ |
846 |
|
|
$ |
(162 |
) |
|
$ |
6,330 |
|
Net sales, related party |
|
|
|
|
|
|
|
|
|
|
332 |
|
|
|
6 |
|
|
|
|
|
|
|
338 |
|
Cost of products sold |
|
|
|
|
|
|
|
|
|
|
3,563 |
|
|
|
297 |
|
|
|
(162 |
) |
|
|
3,698 |
|
Selling, general and administrative expenses |
|
|
17 |
|
|
|
1 |
|
|
|
921 |
|
|
|
209 |
|
|
|
|
|
|
|
1,148 |
|
Amortization expense |
|
|
|
|
|
|
|
|
|
|
16 |
|
|
|
|
|
|
|
|
|
|
|
16 |
|
Restructuring charge |
|
|
6 |
|
|
|
|
|
|
|
81 |
|
|
|
4 |
|
|
|
|
|
|
|
91 |
|
Trademark impairment charge |
|
|
|
|
|
|
|
|
|
|
173 |
|
|
|
|
|
|
|
|
|
|
|
173 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss) |
|
|
(23 |
) |
|
|
(1 |
) |
|
|
1,224 |
|
|
|
342 |
|
|
|
|
|
|
|
1,542 |
|
Interest and debt expense |
|
|
200 |
|
|
|
7 |
|
|
|
|
|
|
|
1 |
|
|
|
|
|
|
|
208 |
|
Interest income |
|
|
(1 |
) |
|
|
(2 |
) |
|
|
(35 |
) |
|
|
(13 |
) |
|
|
|
|
|
|
(51 |
) |
Intercompany interest (income) expense |
|
|
(63 |
) |
|
|
(7 |
) |
|
|
(69 |
) |
|
|
139 |
|
|
|
|
|
|
|
|
|
Intercompany dividend income |
|
|
|
|
|
|
(32 |
) |
|
|
|
|
|
|
|
|
|
|
32 |
|
|
|
|
|
Gain on termination of joint venture |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(328 |
) |
|
|
|
|
|
|
(328 |
) |
Other (income) expense, net |
|
|
3 |
|
|
|
(2 |
) |
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes |
|
|
(162 |
) |
|
|
35 |
|
|
|
1,326 |
|
|
|
543 |
|
|
|
(32 |
) |
|
|
1,710 |
|
Provision for (benefit from) income taxes |
|
|
(57 |
) |
|
|
|
|
|
|
616 |
|
|
|
71 |
|
|
|
|
|
|
|
630 |
|
Equity income from subsidiaries |
|
|
1,185 |
|
|
|
1,055 |
|
|
|
345 |
|
|
|
|
|
|
|
(2,585 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
|
$ |
1,080 |
|
|
$ |
1,090 |
|
|
$ |
1,055 |
|
|
$ |
472 |
|
|
$ |
(2,617 |
) |
|
$ |
1,080 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
66
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Condensed Consolidating Statements of Cash Flows
(Dollars in Millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent |
|
|
|
|
|
|
Other |
|
|
Non- |
|
|
|
|
|
|
|
|
|
Guarantor |
|
|
Issuer |
|
|
Guarantors |
|
|
Guarantors |
|
|
Eliminations |
|
|
Consolidated |
|
For the Nine Months Ended September 30, 2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from operating activities |
|
$ |
274 |
|
|
$ |
1,127 |
|
|
$ |
834 |
|
|
$ |
146 |
|
|
$ |
(1,492 |
) |
|
$ |
889 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from (used in) investing
activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from settlement of short-term
investments |
|
|
1 |
|
|
|
5 |
|
|
|
10 |
|
|
|
1 |
|
|
|
|
|
|
|
17 |
|
Capital expenditures |
|
|
|
|
|
|
|
|
|
|
(33 |
) |
|
|
(42 |
) |
|
|
|
|
|
|
(75 |
) |
Proceeds from termination of joint venture |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
24 |
|
|
|
|
|
|
|
24 |
|
Other, net |
|
|
|
|
|
|
1 |
|
|
|
16 |
|
|
|
|
|
|
|
|
|
|
|
17 |
|
Intercompany investments |
|
|
610 |
|
|
|
(610 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Intercompany notes receivable |
|
|
40 |
|
|
|
8 |
|
|
|
14 |
|
|
|
|
|
|
|
(62 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash flows from (used in) investing
activities |
|
|
651 |
|
|
|
(596 |
) |
|
|
7 |
|
|
|
(17 |
) |
|
|
(62 |
) |
|
|
(17 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from (used in) financing
activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividends paid on common stock |
|
|
(743 |
) |
|
|
(440 |
) |
|
|
(1,020 |
) |
|
|
|
|
|
|
1,460 |
|
|
|
(743 |
) |
Repayment of long-term debt |
|
|
(189 |
) |
|
|
(11 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(200 |
) |
Excess tax benefit from stock-based
compensation |
|
|
1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1 |
|
Repurchase of common stock |
|
|
(5 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(5 |
) |
Other, net |
|
|
1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1 |
|
Dividends paid on preferred stock |
|
|
(32 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
32 |
|
|
|
|
|
Intercompany notes payable |
|
|
(17 |
) |
|
|
3 |
|
|
|
|
|
|
|
(48 |
) |
|
|
62 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash flows used in financing activities |
|
|
(984 |
) |
|
|
(448 |
) |
|
|
(1,020 |
) |
|
|
(48 |
) |
|
|
1,554 |
|
|
|
(946 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effect of exchange rate changes on cash and
cash equivalents |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
9 |
|
|
|
|
|
|
|
9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net change in cash and cash equivalents |
|
|
(59 |
) |
|
|
83 |
|
|
|
(179 |
) |
|
|
90 |
|
|
|
|
|
|
|
(65 |
) |
Cash and cash equivalents at beginning of
period |
|
|
272 |
|
|
|
6 |
|
|
|
1,977 |
|
|
|
323 |
|
|
|
|
|
|
|
2,578 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period |
|
$ |
213 |
|
|
$ |
89 |
|
|
$ |
1,798 |
|
|
$ |
413 |
|
|
$ |
|
|
|
$ |
2,513 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
67
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Condensed Consolidating Statements of Cash Flows
(Dollars in Millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent |
|
|
|
|
|
|
Other |
|
|
Non- |
|
|
|
|
|
|
|
|
|
Guarantor |
|
|
Issuer |
|
|
Guarantors |
|
|
Guarantors |
|
|
Eliminations |
|
|
Consolidated |
|
For the Nine Months Ended September 30, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from operating activities |
|
$ |
649 |
|
|
$ |
646 |
|
|
$ |
841 |
|
|
$ |
75 |
|
|
$ |
(1,383 |
) |
|
$ |
828 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from (used in) investing
activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from settlement of short-term
investments |
|
|
|
|
|
|
|
|
|
|
208 |
|
|
|
|
|
|
|
|
|
|
|
208 |
|
Capital expenditures |
|
|
|
|
|
|
|
|
|
|
(55 |
) |
|
|
(40 |
) |
|
|
|
|
|
|
(95 |
) |
Proceeds from termination of joint venture |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
164 |
|
|
|
|
|
|
|
164 |
|
Other, net |
|
|
(8 |
) |
|
|
(8 |
) |
|
|
(16 |
) |
|
|
19 |
|
|
|
|
|
|
|
(13 |
) |
Intercompany notes receivable |
|
|
40 |
|
|
|
71 |
|
|
|
(100 |
) |
|
|
|
|
|
|
(11 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash flows from investing activities |
|
|
32 |
|
|
|
63 |
|
|
|
37 |
|
|
|
143 |
|
|
|
(11 |
) |
|
|
264 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from (used in) financing
activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dividends paid on common stock |
|
|
(752 |
) |
|
|
(650 |
) |
|
|
(631 |
) |
|
|
(70 |
) |
|
|
1,351 |
|
|
|
(752 |
) |
Excess tax benefit from stock-based
compensation |
|
|
2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2 |
|
Proceeds from stock options exercised |
|
|
1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1 |
|
Repurchase of common stock |
|
|
(207 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(207 |
) |
Other, net |
|
|
1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1 |
|
Dividends paid on preferred stock |
|
|
(32 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
32 |
|
|
|
|
|
Intercompany notes payable |
|
|
98 |
|
|
|
2 |
|
|
|
|
|
|
|
(111 |
) |
|
|
11 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash flows used in financing activities |
|
|
(889 |
) |
|
|
(648 |
) |
|
|
(631 |
) |
|
|
(181 |
) |
|
|
1,394 |
|
|
|
(955 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effect of exchange rate changes on cash and
cash equivalents |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(23 |
) |
|
|
|
|
|
|
(23 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net change in cash and cash equivalents |
|
|
(208 |
) |
|
|
61 |
|
|
|
247 |
|
|
|
14 |
|
|
|
|
|
|
|
114 |
|
Cash and cash equivalents at beginning of
period |
|
|
243 |
|
|
|
25 |
|
|
|
1,623 |
|
|
|
324 |
|
|
|
|
|
|
|
2,215 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period |
|
$ |
35 |
|
|
$ |
86 |
|
|
$ |
1,870 |
|
|
$ |
338 |
|
|
$ |
|
|
|
$ |
2,329 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
68
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Condensed Consolidating Balance Sheets
(Dollars in Millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent |
|
|
|
|
|
|
Other |
|
|
Non- |
|
|
|
|
|
|
|
|
|
Guarantor |
|
|
Issuer |
|
|
Guarantors |
|
|
Guarantors |
|
|
Eliminations |
|
|
Consolidated |
|
September 30, 2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
213 |
|
|
$ |
89 |
|
|
$ |
1,798 |
|
|
$ |
413 |
|
|
$ |
|
|
|
$ |
2,513 |
|
Short-term investments |
|
|
1 |
|
|
|
1 |
|
|
|
3 |
|
|
|
1 |
|
|
|
|
|
|
|
6 |
|
Accounts receivable, net |
|
|
|
|
|
|
|
|
|
|
32 |
|
|
|
61 |
|
|
|
|
|
|
|
93 |
|
Accounts receivable, related party |
|
|
|
|
|
|
|
|
|
|
64 |
|
|
|
1 |
|
|
|
|
|
|
|
65 |
|
Notes receivable |
|
|
|
|
|
|
1 |
|
|
|
|
|
|
|
34 |
|
|
|
|
|
|
|
35 |
|
Other receivables |
|
|
4 |
|
|
|
|
|
|
|
7 |
|
|
|
4 |
|
|
|
|
|
|
|
15 |
|
Inventories |
|
|
|
|
|
|
|
|
|
|
711 |
|
|
|
387 |
|
|
|
(3 |
) |
|
|
1,095 |
|
Deferred income taxes, net |
|
|
9 |
|
|
|
1 |
|
|
|
877 |
|
|
|
25 |
|
|
|
|
|
|
|
912 |
|
Prepaid expenses and other |
|
|
7 |
|
|
|
|
|
|
|
320 |
|
|
|
19 |
|
|
|
(4 |
) |
|
|
342 |
|
Short-term intercompany notes and interest
receivable |
|
|
80 |
|
|
|
32 |
|
|
|
177 |
|
|
|
|
|
|
|
(289 |
) |
|
|
|
|
Other intercompany receivables |
|
|
259 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(259 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current assets |
|
|
573 |
|
|
|
124 |
|
|
|
3,989 |
|
|
|
945 |
|
|
|
(555 |
) |
|
|
5,076 |
|
Property, plant and equipment, net |
|
|
7 |
|
|
|
|
|
|
|
786 |
|
|
|
197 |
|
|
|
|
|
|
|
990 |
|
Trademarks and other intangible assets, net |
|
|
|
|
|
|
|
|
|
|
1,472 |
|
|
|
1,323 |
|
|
|
|
|
|
|
2,795 |
|
Goodwill |
|
|
|
|
|
|
|
|
|
|
5,303 |
|
|
|
2,871 |
|
|
|
|
|
|
|
8,174 |
|
Long-term intercompany notes |
|
|
2,040 |
|
|
|
190 |
|
|
|
1,387 |
|
|
|
|
|
|
|
(3,617 |
) |
|
|
|
|
Investment in subsidiaries |
|
|
9,653 |
|
|
|
7,820 |
|
|
|
448 |
|
|
|
|
|
|
|
(17,921 |
) |
|
|
|
|
Other assets and deferred charges |
|
|
312 |
|
|
|
63 |
|
|
|
347 |
|
|
|
138 |
|
|
|
(257 |
) |
|
|
603 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets |
|
$ |
12,585 |
|
|
$ |
8,197 |
|
|
$ |
13,732 |
|
|
$ |
5,474 |
|
|
$ |
(22,350 |
) |
|
$ |
17,638 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities and shareholders equity |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tobacco settlement accruals |
|
$ |
|
|
|
$ |
|
|
|
$ |
2,363 |
|
|
$ |
33 |
|
|
$ |
|
|
|
$ |
2,396 |
|
Accounts payable and other accrued liabilities |
|
|
396 |
|
|
|
6 |
|
|
|
694 |
|
|
|
117 |
|
|
|
(4 |
) |
|
|
1,209 |
|
Due to related party |
|
|
|
|
|
|
|
|
|
|
3 |
|
|
|
|
|
|
|
|
|
|
|
3 |
|
Deferred revenue, related party |
|
|
|
|
|
|
|
|
|
|
13 |
|
|
|
|
|
|
|
|
|
|
|
13 |
|
Current maturities on long-term debt |
|
|
300 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
300 |
|
Short-term intercompany notes and interest
payable |
|
|
32 |
|
|
|
133 |
|
|
|
|
|
|
|
124 |
|
|
|
(289 |
) |
|
|
|
|
Other intercompany payables |
|
|
|
|
|
|
46 |
|
|
|
195 |
|
|
|
18 |
|
|
|
(259 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
728 |
|
|
|
185 |
|
|
|
3,268 |
|
|
|
292 |
|
|
|
(552 |
) |
|
|
3,921 |
|
Intercompany notes and interest payable |
|
|
1,387 |
|
|
|
|
|
|
|
|
|
|
|
2,230 |
|
|
|
(3,617 |
) |
|
|
|
|
Long-term debt (less current maturities) |
|
|
4,022 |
|
|
|
122 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4,144 |
|
Deferred income taxes, net |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
491 |
|
|
|
(258 |
) |
|
|
233 |
|
Long-term retirement benefits (less current
portion) |
|
|
73 |
|
|
|
34 |
|
|
|
2,406 |
|
|
|
101 |
|
|
|
|
|
|
|
2,614 |
|
Other noncurrent liabilities |
|
|
19 |
|
|
|
106 |
|
|
|
239 |
|
|
|
6 |
|
|
|
|
|
|
|
370 |
|
Shareholders equity |
|
|
6,356 |
|
|
|
7,750 |
|
|
|
7,819 |
|
|
|
2,354 |
|
|
|
(17,923 |
) |
|
|
6,356 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and shareholders equity |
|
$ |
12,585 |
|
|
$ |
8,197 |
|
|
$ |
13,732 |
|
|
$ |
5,474 |
|
|
$ |
(22,350 |
) |
|
$ |
17,638 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
69
Notes to Condensed Consolidated Financial Statements (Unaudited) (Continued)
Condensed Consolidating Balance Sheets
(Dollars in Millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Parent |
|
|
|
|
|
|
Other |
|
|
Non- |
|
|
|
|
|
|
|
|
|
Guarantor |
|
|
Issuer |
|
|
Guarantors |
|
|
Guarantors |
|
|
Eliminations |
|
|
Consolidated |
|
December 31, 2008 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
272 |
|
|
$ |
6 |
|
|
$ |
1,977 |
|
|
$ |
323 |
|
|
$ |
|
|
|
$ |
2,578 |
|
Short-term investments |
|
|
1 |
|
|
|
6 |
|
|
|
14 |
|
|
|
2 |
|
|
|
|
|
|
|
23 |
|
Accounts receivable, net |
|
|
|
|
|
|
|
|
|
|
38 |
|
|
|
46 |
|
|
|
|
|
|
|
84 |
|
Accounts receivable, related party |
|
|
|
|
|
|
|
|
|
|
88 |
|
|
|
3 |
|
|
|
|
|
|
|
91 |
|
Notes receivable |
|
|
|
|
|
|
1 |
|
|
|
|
|
|
|
34 |
|
|
|
|
|
|
|
35 |
|
Other receivables |
|
|
9 |
|
|
|
1 |
|
|
|
23 |
|
|
|
4 |
|
|
|
|
|
|
|
37 |
|
Inventories |
|
|
|
|
|
|
|
|
|
|
784 |
|
|
|
388 |
|
|
|
(2 |
) |
|
|
1,170 |
|
Deferred income taxes, net |
|
|
12 |
|
|
|
|
|
|
|
806 |
|
|
|
20 |
|
|
|
|
|
|
|
838 |
|
Prepaid expenses and other |
|
|
35 |
|
|
|
|
|
|
|
125 |
|
|
|
10 |
|
|
|
(7 |
) |
|
|
163 |
|
Short-term intercompany notes and interest
receivable |
|
|
81 |
|
|
|
35 |
|
|
|
183 |
|
|
|
|
|
|
|
(299 |
) |
|
|
|
|
Other intercompany receivables |
|
|
68 |
|
|
|
19 |
|
|
|
|
|
|
|
2 |
|
|
|
(89 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current assets |
|
|
478 |
|
|
|
68 |
|
|
|
4,038 |
|
|
|
832 |
|
|
|
(397 |
) |
|
|
5,019 |
|
Property, plant and equipment, net |
|
|
7 |
|
|
|
|
|
|
|
856 |
|
|
|
168 |
|
|
|
|
|
|
|
1,031 |
|
Trademarks and other intangible assets, net |
|
|
|
|
|
|
|
|
|
|
1,869 |
|
|
|
1,401 |
|
|
|
|
|
|
|
3,270 |
|
Goodwill |
|
|
|
|
|
|
|
|
|
|
5,303 |
|
|
|
2,871 |
|
|
|
|
|
|
|
8,174 |
|
Long-term intercompany notes |
|
|
2,080 |
|
|
|
207 |
|
|
|
1,408 |
|
|
|
|
|
|
|
(3,695 |
) |
|
|
|
|
Investment in subsidiaries |
|
|
9,751 |
|
|
|
8,000 |
|
|
|
413 |
|
|
|
|
|
|
|
(18,164 |
) |
|
|
|
|
Other assets and deferred charges |
|
|
349 |
|
|
|
63 |
|
|
|
310 |
|
|
|
161 |
|
|
|
(223 |
) |
|
|
660 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets |
|
$ |
12,665 |
|
|
$ |
8,338 |
|
|
$ |
14,197 |
|
|
$ |
5,433 |
|
|
$ |
(22,479 |
) |
|
$ |
18,154 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities and shareholders equity |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Tobacco settlement accruals |
|
$ |
|
|
|
$ |
|
|
|
$ |
2,288 |
|
|
$ |
33 |
|
|
$ |
|
|
|
$ |
2,321 |
|
Accounts payable and other accrued liabilities |
|
|
350 |
|
|
|
7 |
|
|
|
857 |
|
|
|
142 |
|
|
|
(7 |
) |
|
|
1,349 |
|
Due to related party |
|
|
|
|
|
|
|
|
|
|
2 |
|
|
|
1 |
|
|
|
|
|
|
|
3 |
|
Deferred revenue, related party |
|
|
|
|
|
|
|
|
|
|
50 |
|
|
|
|
|
|
|
|
|
|
|
50 |
|
Current maturities of long-term debt |
|
|
189 |
|
|
|
11 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
200 |
|
Short-term intercompany notes and interest
payable |
|
|
40 |
|
|
|
130 |
|
|
|
2 |
|
|
|
127 |
|
|
|
(299 |
) |
|
|
|
|
Other intercompany payables |
|
|
|
|
|
|
|
|
|
|
89 |
|
|
|
|
|
|
|
(89 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
579 |
|
|
|
148 |
|
|
|
3,288 |
|
|
|
303 |
|
|
|
(395 |
) |
|
|
3,923 |
|
Intercompany notes and interest payable |
|
|
1,409 |
|
|
|
|
|
|
|
|
|
|
|
2,286 |
|
|
|
(3,695 |
) |
|
|
|
|
Long-term debt (less current maturities) |
|
|
4,362 |
|
|
|
124 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4,486 |
|
Deferred income taxes, net |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
505 |
|
|
|
(223 |
) |
|
|
282 |
|
Long-term retirement benefits (less current
portion) |
|
|
64 |
|
|
|
32 |
|
|
|
2,646 |
|
|
|
94 |
|
|
|
|
|
|
|
2,836 |
|
Other noncurrent liabilities |
|
|
14 |
|
|
|
106 |
|
|
|
263 |
|
|
|
7 |
|
|
|
|
|
|
|
390 |
|
Shareholders equity |
|
|
6,237 |
|
|
|
7,928 |
|
|
|
8,000 |
|
|
|
2,238 |
|
|
|
(18,166 |
) |
|
|
6,237 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and shareholders equity |
|
$ |
12,665 |
|
|
$ |
8,338 |
|
|
$ |
14,197 |
|
|
$ |
5,433 |
|
|
$ |
(22,479 |
) |
|
$ |
18,154 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
70
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
The following is a discussion and analysis of RAIs business, initiatives, critical accounting
policies and its consolidated results of operations and financial position. Following the overview
and discussion of business initiatives, the critical accounting policies disclose certain
accounting policies that are material to RAIs results of operations and financial position for the
periods presented in this report. The discussion and analysis of RAIs results of operations
compares the third quarter of 2009 with the third quarter of 2008 and the first nine months of 2009
with the first nine months of 2008. Disclosures related to liquidity and financial position
complete managements discussion and analysis. You should read this discussion and analysis of
RAIs consolidated financial position and results of operations in conjunction with the financial
information included in the condensed consolidated financial statements (unaudited).
Overview and Business Initiatives
RAIs reportable operating segments are RJR Tobacco and Conwood. The RJR Tobacco segment
consists of the primary operations of R. J. Reynolds Tobacco Company. The Conwood segment consists
of Conwood Holdings, Inc., the primary operations of the Conwood companies and Lane. RAIs wholly
owned subsidiary, Santa Fe, among others, is included in All Other. Some of RAIs wholly owned
operating subsidiaries have entered into intercompany agreements for products or services with
other RAI operating subsidiaries. As a result, certain activities of an operating subsidiary may be
included in a different segment of RAI.
RAIs largest reportable operating segment, RJR Tobacco, is the second largest cigarette
manufacturer in the United States. RJR Tobaccos largest selling cigarette brands, CAMEL, PALL
MALL, WINSTON, KOOL and DORAL, were five of the ten best-selling brands of cigarettes in the United
States as of September 30, 2009. Those brands, and its other brands, including SALEM, MISTY and
CAPRI, are manufactured in a variety of styles and marketed in the United States. RJR Tobacco also
manages contract manufacturing of cigarettes and tobacco products through arrangements with BAT
affiliates. On January 1, 2009, the management of tobacco products sold to certain U.S.
territories, U.S. duty-free shops and U.S. overseas military bases was transferred to RJR Tobacco
from GPI.
RAIs other reportable operating segment, Conwood, is the second largest smokeless tobacco
products manufacturer in the United States. Conwoods primary brands include its largest selling
moist snuff brands, GRIZZLY, the best-selling moist snuff brand in the United States as of
September 30, 2009, and KODIAK. Conwood launched CAMEL Dip, a
premium moist snuff, in lead markets during the second quarter of
2009. Conwoods other products include loose leaf chewing tobacco, dry
snuff, plug and twist tobacco products, as well as WINCHESTER and CAPTAIN BLACK little cigars, and
BUGLER roll-your-own tobacco.
Santa Fe manufactures and markets cigarettes and other tobacco products under the NATURAL
AMERICAN SPIRIT brand and manages super premium brands, DUNHILL and STATE EXPRESS 555, licensed
from BAT.
On February 4, 2009, President Obama signed into law,
effective April 1, 2009, an increase of $0.62 in the excise tax per pack of cigarettes, and significant tax increases on other tobacco
products, to fund expansion of the SCHIP. As a result, the federal excise tax rate for chewing
tobacco increased $0.3083 per pound to $0.5033 per pound and for snuff, increased $0.925 per pound
to $1.51 per pound. The federal excise tax on small cigars, defined as those weighing three pounds
or less per thousand, increased $48.502 per thousand to $50.33 per thousand. In addition, the
federal excise tax rate for roll-your-own tobacco increased from $1.097 per pound to $24.78 per
pound. RAIs operating subsidiaries believe that these federal excise tax increases have had, and
will continue to have, a significant and adverse impact on sales volume. This event required the
testing for impairment of the carrying value of trademarks and goodwill during the first quarter of
2009. See note 3 to condensed consolidated financial statements (unaudited) for information
regarding trademark and goodwill impairment testing and the resulting trademark impairment charge.
On June 22, 2009, President Obama signed into
law the FDA Tobacco Act, granting the FDA broad authority over the manufacture,
sale, marketing and packaging of tobacco products. Provisions of the FDA Tobacco Act are effective
over a time period ranging from 90 days to over 39 months. For additional information on the FDA
Tobacco Act, see the Governmental Activity section below.
71
RJR Tobacco
RJR Tobacco primarily conducts business in the highly competitive U.S. cigarette market, which
has a few large manufacturers and many smaller participants. The U.S. cigarette market is a mature
market in which overall consumer demand has declined since 1981 and is expected to continue to
decline. Trade inventory adjustments may result in short-term changes in demand for RJR Tobaccos
products when wholesale and retail tobacco distributors adjust the timing of their purchases of
product to manage their inventory levels. RJR Tobacco believes it is not appropriate for it to
speculate on other external factors that may impact the purchasing decisions of the wholesale and
retail tobacco distributors.
RJR Tobaccos brand portfolio strategy is based upon three brand categories: growth, support
and non-support. The growth brands consist of a premium brand, CAMEL, and a value brand, PALL MALL.
Although both of these brands are managed for long-term market share and profit growth, CAMEL will
continue to receive the most significant investment support. The support brands include four
premium brands, WINSTON, KOOL, SALEM and CAPRI, and two value brands, DORAL and MISTY, all of which
receive limited marketing support. The non-support brands, consisting of all other brands, are
managed to maximize near-term profitability. The key objectives of the portfolio strategy are to
ensure the long-term market share growth of the growth brands while managing the support brands for
long-term sustainability and profitability.
Competition is based primarily on brand positioning, including price, product attributes and
packaging, consumer loyalty, promotions, advertising and retail presence. Cigarette brands produced
by the major manufacturers generally require competitive pricing, substantial marketing support,
retail programs and other incentives to maintain or improve market position or to introduce a new
brand style. Having expanded beyond the cigarette market as an innovative tobacco company, RJR
Tobacco offers a smokeless, spitless tobacco, known as snus, and new smoke-free tobacco products
called CAMEL Dissolvables. CAMEL Snus, launched nationally in 2009, is pasteurized tobacco in a
small pouch that provides convenient tobacco consumption. CAMEL Dissolvables include CAMEL Orbs,
Sticks and Strips, all of which are made of finely milled tobacco and dissolve completely in the
mouth. CAMEL Orbs were launched in three lead markets during the first quarter of 2009, and CAMEL
Sticks and Strips were launched in those lead markets at the beginning of the third quarter of
2009.
RJR Tobacco is committed to building and maintaining a portfolio of profitable brands. RJR
Tobaccos marketing programs are designed to strengthen brand image, build brand awareness and
loyalty, and switch adult smokers of competing brands to RJR Tobacco brands. In addition to
building strong brand equity, RJR Tobaccos marketing approach utilizes a retail pricing strategy,
including discounting at retail, to defend certain brands shares of market against competitive
pricing pressure. RJR Tobaccos competitive pricing methods may include list price changes,
discounting programs, such as retail buydowns, periodic price reductions, dollar-off promotions,
free product promotions and consumer coupons. Retail buydowns refer to payments made to the
retailer to reduce the price that consumers pay at retail. Consumer coupons generally are
distributed by a variety of methods, including in, or on, the cigarette pack and by direct mail.
Free product promotions include offers such as Buy 2, Get 1 free. The cost of free product
promotions, including federal excise tax, is recorded in cost of goods sold.
Conwood
Conwood offers a range of differentiated smokeless and other tobacco products to adult
consumers. The moist snuff category is divided into premium and price-value brands. The moist snuff
category has developed many of the characteristics of the larger cigarette market, including
multiple pricing tiers with intense competition, focused marketing programs and significant product
innovation.
In contrast to the declining U.S. cigarette market, U.S. moist snuff volumes grew over 3.5% in
the first nine months of 2009 and have grown at an average rate of approximately 6% per year over
the last four years, driven by the accelerated growth of price-value brands. The growth in the
moist snuff volumes is lower in 2009 than prior years due to adjustments in trade inventories
following the federal excise tax increase and changes in competitive promotional strategies.
Profit margins on moist snuff products are generally higher than on cigarette products. Moist
snuffs growth is partially attributable to cigarette smokers switching from cigarettes to
smokeless tobacco products or using both. Within the moist snuff category, premium brands have lost
market share to price-value
72
brands, led by the growth of GRIZZLY, in recent years.
Conwood faces significant competition in the smokeless tobacco categories. Similar to the
cigarette market, competition is based primarily on brand positioning and price, as well as product
attributes and packaging, consumer loyalty, promotions, advertising and retail presence. The parent
company of RJR Tobaccos largest competitor in the cigarette market, Philip Morris USA, Inc.,
completed its acquisition of Conwoods largest competitor, UST, in January 2009.
Critical Accounting Policies and Estimates
GAAP requires estimates and assumptions to be made that affect the reported amounts in RAIs
condensed consolidated financial statements (unaudited) and accompanying notes. Some of these
estimates require difficult, subjective and/or complex judgments about matters that are inherently
uncertain, and as a result, actual results could differ from those estimates. Due to the estimation
processes involved, the following summarized accounting policies and their application are
considered to be critical to understanding the business operations, financial position and results
of operations of RAI and its subsidiaries.
Litigation
RAI discloses information concerning litigation for which an unfavorable outcome is more than
remote. RAI and its subsidiaries record their legal expenses and other litigation costs and related
administrative costs as selling, general and administrative expenses as those costs are incurred.
RAI and its subsidiaries will record any loss related to litigation at such time as an unfavorable
outcome becomes probable and the amount can be reasonably estimated. When the reasonable estimate
is a range, the recorded loss will be the best estimate within the range. If no amount in the range
is a better estimate than any other amount, the minimum amount of the range will be recorded.
As discussed in note 11 to condensed consolidated financial statements (unaudited), RJR
Tobacco, the Conwood companies and their affiliates, including RAI, and indemnitees, have been
named in a number of tobacco-related legal actions, proceedings or claims seeking damages in
amounts ranging into the hundreds of millions or even billions of dollars. Unfavorable judgments
have been returned in a number of tobacco-related cases and state enforcement actions. As of
October 9, 2009, RJR Tobacco had paid approximately $7 million since January 1, 2007, related to
unfavorable judgments.
RAI and its subsidiaries believe that they have valid bases for appeal of adverse verdicts
against them and have valid defenses to all actions and they intend to defend all actions
vigorously. RAIs management continues to conclude that the loss of any particular smoking and
health tobacco litigation claim against RJR Tobacco or its affiliates or indemnitees, including
B&W, or the loss of any particular claim concerning the use of smokeless tobacco against the
Conwood companies, when viewed on an individual basis, is not probable or estimable. As of
September 30, 2009, RJR Tobacco had $2 million accrued for non-smoking and health litigation, and
RJR, including its subsidiary RJR Tobacco, had liabilities totaling $94 million that were recorded
in 1999 in connection with certain non-smoking and health indemnification claims asserted by JTI
relating to certain activities of Northern Brands and related litigation.
Litigation is subject to many uncertainties, and it is possible that some of the
tobacco-related legal actions, proceedings or claims could ultimately be decided against RJR
Tobacco, the Conwood companies or their affiliates, including RAI, and indemnitees. Any unfavorable
outcome of such actions could have a material adverse effect on the consolidated results of
operations, cash flows or financial position of RAI or its subsidiaries. For further discussion of
the litigation and legal proceedings pending against RAI or its affiliates or indemnitees, see
note 11 to condensed consolidated financial statements (unaudited).
Settlement Agreements
RJR Tobacco, Santa Fe and Lane are participants in the MSA, and RJR Tobacco is a participant
in the other State Settlement Agreements related to governmental health-care cost recovery actions.
Their obligations and the related expense charges under the State Settlement Agreements are subject
to adjustments based upon, among other things,
73
the volume of cigarettes sold by the operating subsidiaries, their relative market share and
inflation. Since relative market share is based on cigarette shipments, the best estimate of the
allocation of charges to RJR Tobacco under these agreements is recorded in cost of products sold as
the products are shipped. Adjustments to these estimates are recorded in the period that the change
becomes probable and the amount can be reasonably estimated. The Conwood companies are not
participants in the State Settlement Agreements. For more information related to historical and
expected settlement expenses and payments under the State Settlement Agreements, see Litigation
Affecting the Cigarette Industry Health-Care Cost Recovery Cases State Settlement Agreements
and State Settlement Agreements Enforcement and Validity in note 11 to condensed consolidated
financial statements (unaudited).
Intangible Assets
Intangible assets include goodwill, trademarks and other intangible assets. The determination
of fair value involves considerable estimates and judgment. In particular, the fair value of a
reporting unit involves, among other things, developing forecasts of future cash flows, determining
an appropriate discount rate, and when goodwill impairment is implied, determining the fair value
of individual assets and liabilities, including unrecorded intangibles. Although RAI believes it
has based its impairment testing and impairment charges on reasonable estimates and assumptions,
the use of different estimates and assumptions could result in materially different results.
Generally, if the current competitive or regulatory environment worsens or RAIs operating
companies strategic initiatives adversely affect their financial performance, the fair value of
goodwill, trademarks and other intangible assets could be impaired in future periods. Trademarks
and other intangible assets with indefinite lives are tested for impairment annually, in the fourth
quarter. All trademarks and other intangible assets are tested more frequently if events and
circumstances indicate that the asset might be impaired. See note 3 to condensed consolidated
financial statements (unaudited) for a discussion of the 2009 impairment charge.
Fair Value Measurement
RAI determines fair value of assets and liabilities using a fair value hierarchy that
distinguishes between market participant assumptions developed based on market data obtained from
sources independent of the reporting entity, and the reporting entitys own assumptions about
market participant assumptions developed based on the best information available in the
circumstances and expands disclosure about fair value measurements.
Fair value is the price that would be received to sell an asset or paid to transfer a
liability in an orderly transaction between market participants at the measurement date,
essentially an exit price.
The levels of the fair value hierarchy are:
Level 1: inputs are quoted prices, unadjusted, in active markets for identical assets or
liabilities that the reporting entity has the ability to access at the measurement date.
Level 2: inputs are other than quoted prices included within Level 1 that are observable for
the asset or liability, either directly or indirectly. A Level 2 input must be observable for
substantially the full term of the asset or liability.
Level 3: inputs are unobservable and reflect the reporting entitys own assumptions about
the assumptions that market participants would use in pricing the asset or liability.
Investments
RAI reviews investments for impairment on a quarterly basis. For those investments in an
inactive market, RAI uses assumptions about future cash flows and risk-adjusted discount rates to
determine fair value.
As of September 30, 2009, RAI held investments primarily in money market funds, auction rate
securities, a mortgage-backed security and a marketable equity security. Certain money market funds
are classified as short-term investments due to the liquidity restrictions by the fund managers
preventing immediate withdrawal. Adverse changes in financial markets caused certain auction rate
securities and the mortgage-backed security to revalue lower than carrying value and become less
liquid. Auction rate securities and the mortgage-backed security will not become liquid until a
successful auction occurs or a buyer is found.
74
These investments will be evaluated on a quarterly basis to determine if it is probable that
RAI will realize some portion of the unrealized loss. Credit loss of an other-than-temporary
impairment is included in earnings and the noncredit component is recognized in other comprehensive
loss for those securities in which RAI does not intend to sell and as
to which it is more likely than not that
RAI will not be required to sell the security prior to recovery. For additional information
relating to these investments, see note 6 to condensed consolidated financial statements
(unaudited).
Income Taxes
Tax law requires certain items to be excluded or included in taxable income at different times
than is required for book reporting purposes. These differences may be permanent or temporary in
nature.
RAI determines its annual effective income tax rate based on forecasted pre-tax book income
and forecasted permanent book and tax differences. The rate is established at the beginning of the
year and is evaluated on a quarterly basis. Any changes to the forecasted information may cause the
effective rate to be adjusted. Additional tax, interest and penalties associated with uncertain tax
positions are recognized in tax expense on a quarterly basis.
To the extent that any book and tax differences are temporary in nature, that is, the book
realization will occur in a different period than the tax realization, a deferred tax asset or
liability is established. To the extent that a deferred tax asset is created, management evaluates
RAIs ability to realize this asset. Management currently believes it is more likely than not that
the deferred tax assets recorded in RAIs consolidated balance sheets will be realized. To the
extent a deferred tax liability is established, it is recorded, tracked and, once it becomes
currently due and payable, paid to the taxing authorities.
The financial statements reflect managements best estimate of RAIs current and deferred tax
liabilities and assets. Future events, including but not limited to, additional resolutions with
taxing authorities could have an impact on RAIs current estimate of tax liabilities, realization
of tax assets and upon RAIs effective income tax rate.
Recently Adopted Accounting Pronouncements
For additional information relating to recently adopted accounting pronouncements, see note 1
to condensed consolidated financial statements (unaudited).
Results of Operations
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
For the Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
|
2009 |
|
|
2008 |
|
|
% Change |
|
|
2009 |
|
|
2008 |
|
|
% Change |
|
Net sales:(1) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RJR Tobacco |
|
$ |
1,867 |
|
|
$ |
1,994 |
|
|
|
(6.4 |
)% |
|
$ |
5,513 |
|
|
$ |
5,858 |
|
|
|
(5.9 |
)% |
Conwood |
|
|
177 |
|
|
|
181 |
|
|
|
(2.5 |
)% |
|
|
512 |
|
|
|
536 |
|
|
|
(4.5 |
)% |
All other |
|
|
108 |
|
|
|
97 |
|
|
|
11.3 |
% |
|
|
298 |
|
|
|
274 |
|
|
|
8.8 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net sales |
|
|
2,152 |
|
|
|
2,272 |
|
|
|
(5.3 |
)% |
|
|
6,323 |
|
|
|
6,668 |
|
|
|
(5.2 |
)% |
Cost of products sold(1)(2) |
|
|
1,138 |
|
|
|
1,229 |
|
|
|
(7.4 |
)% |
|
|
3,337 |
|
|
|
3,698 |
|
|
|
(9.8 |
)% |
Selling, general and
administrative expenses |
|
|
371 |
|
|
|
375 |
|
|
|
(1.1 |
)% |
|
|
1,129 |
|
|
|
1,148 |
|
|
|
(1.7 |
)% |
Amortization expense |
|
|
7 |
|
|
|
5 |
|
|
|
40.0 |
% |
|
|
22 |
|
|
|
16 |
|
|
|
37.5 |
% |
Restructuring charge |
|
|
|
|
|
|
91 |
|
|
NM |
(3) |
|
|
|
|
|
|
91 |
|
|
NM |
(3) |
Trademark impairment
charge |
|
|
|
|
|
|
173 |
|
|
NM |
(3) |
|
|
453 |
|
|
|
173 |
|
|
NM |
(3) |
Operating income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
RJR Tobacco |
|
|
532 |
|
|
|
304 |
|
|
|
75.0 |
% |
|
|
1,170 |
|
|
|
1,268 |
|
|
|
(7.7 |
)% |
75
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
For the Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
|
2009 |
|
|
2008 |
|
|
% Change |
|
|
2009 |
|
|
2008 |
|
|
% Change |
|
Conwood |
|
$ |
93 |
|
|
$ |
98 |
|
|
|
(5.1 |
)% |
|
$ |
193 |
|
|
$ |
275 |
|
|
|
(30.0 |
)% |
All other |
|
|
36 |
|
|
|
24 |
|
|
|
50.0 |
% |
|
|
85 |
|
|
|
75 |
|
|
|
13.3 |
% |
Corporate expense |
|
|
(25 |
) |
|
|
(27 |
) |
|
|
(7.4 |
)% |
|
|
(66 |
) |
|
|
(76 |
) |
|
|
(13.2 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income |
|
$ |
636 |
|
|
$ |
399 |
|
|
|
59.4 |
% |
|
$ |
1,382 |
|
|
$ |
1,542 |
|
|
|
(10.4 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Excludes excise taxes of: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2009 |
|
|
2008 |
|
|
2009 |
|
|
2008 |
|
RJR Tobacco |
|
$ |
1,035 |
|
|
$ |
438 |
|
|
$ |
2,528 |
|
|
$ |
1,276 |
|
Conwood |
|
|
39 |
|
|
|
5 |
|
|
|
89 |
|
|
|
15 |
|
All other |
|
|
81 |
|
|
|
49 |
|
|
|
195 |
|
|
|
138 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
1,155 |
|
|
$ |
492 |
|
|
$ |
2,812 |
|
|
$ |
1,429 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2) |
|
See below for further information related to the State Settlement
Agreements and federal tobacco buyout expense included in cost of
products sold. |
|
(3) |
|
Percentage change not meaningful. |
RJR Tobacco
Net Sales
Domestic cigarette shipment volume, in billions of units for RJR Tobacco and the industry,
were as follows(1):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
For the Nine Months Ended |
|
|
September 30, |
|
September 30, |
|
|
2009 |
|
2008 |
|
% Change |
|
2009 |
|
2008 |
|
% Change |
Growth brands: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CAMEL excluding non-filter |
|
|
5.5 |
|
|
|
6.3 |
|
|
|
(12.4 |
)% |
|
|
16.2 |
|
|
|
17.7 |
|
|
|
(8.6 |
)% |
PALL MALL |
|
|
3.8 |
|
|
|
2.4 |
|
|
|
55.0 |
% |
|
|
10.2 |
|
|
|
6.2 |
|
|
|
63.3 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
9.3 |
|
|
|
8.7 |
|
|
|
6.4 |
% |
|
|
26.4 |
|
|
|
23.9 |
|
|
|
10.2 |
% |
Support brands |
|
|
9.3 |
|
|
|
11.6 |
|
|
|
(20.1 |
)% |
|
|
29.1 |
|
|
|
35.5 |
|
|
|
(17.9 |
)% |
Non-support brands |
|
|
2.0 |
|
|
|
2.8 |
|
|
|
(27.3 |
)% |
|
|
6.2 |
|
|
|
8.4 |
|
|
|
(26.4 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total domestic |
|
|
20.6 |
|
|
|
23.1 |
|
|
|
(11.0 |
)% |
|
|
61.7 |
|
|
|
67.8 |
|
|
|
(9.1 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total premium |
|
|
12.2 |
|
|
|
14.4 |
|
|
|
(15.1 |
)% |
|
|
36.8 |
|
|
|
42.5 |
|
|
|
(13.4 |
)% |
Total value |
|
|
8.4 |
|
|
|
8.7 |
|
|
|
(4.1 |
)% |
|
|
24.9 |
|
|
|
25.3 |
|
|
|
(1.8 |
)% |
Premium/total mix |
|
|
59.3 |
% |
|
|
62.2 |
% |
|
|
|
|
|
|
59.7 |
% |
|
|
62.7 |
% |
|
|
|
|
Industry(2): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Premium |
|
|
56.5 |
|
|
|
66.1 |
|
|
|
(14.6 |
)% |
|
|
168.7 |
|
|
|
190.2 |
|
|
|
(11.3 |
)% |
Value |
|
|
23.6 |
|
|
|
25.5 |
|
|
|
(7.4 |
)% |
|
|
69.7 |
|
|
|
71.5 |
|
|
|
(2.6 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total domestic |
|
|
80.1 |
|
|
|
91.6 |
|
|
|
(12.6 |
)% |
|
|
238.3 |
|
|
|
261.7 |
|
|
|
(8.9 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Premium/total mix |
|
|
70.5 |
% |
|
|
72.2 |
% |
|
|
|
|
|
|
70.8 |
% |
|
|
72.7 |
% |
|
|
|
|
|
|
|
(1) |
|
Amounts presented in this table are rounded on an individual basis and,
accordingly, may not sum on an aggregate basis. Percentages are calculated on
unrounded numbers. |
|
(2) |
|
Based on information from Management Science Associates, Inc., referred to as MSAi. |
RJR Tobaccos net sales are dependent upon its cigarette shipment volume in a declining
market, premium versus value-brand mix and list pricing, offset by promotional spending, trade
incentives and federal excise taxes. RJR Tobacco believes the federal excise tax increase,
effective April 1, 2009, has had, and will continue to have, a
76
significant and adverse impact on cigarette sales volume. RJR Tobacco also believes its
consumers are more price-sensitive than consumers of competing brands and, therefore, are more
negatively affected by an increase in the federal excise tax and by the current adverse economic
environment.
RJR Tobaccos net sales for the quarter ended September 30, 2009, decreased $127 million, or
6.4%, from the prior-year quarter, driven by $175 million attributable to lower cigarette volume.
Net sales for the nine months ended September 30, 2009, decreased $345 million, or 5.9%, from the
prior year, driven by $409 million attributable to lower cigarette volume. RJR Tobaccos decreases
in net sales and cigarette shipment volume primarily reflect a continued decline in consumption and
the recent price increase resulting from the increase in the federal excise tax. RJR Tobaccos
total domestic cigarette shipment volume decreased 11.0% in the third quarter of 2009 and decreased
9.1% in the first nine months of 2009 compared with the same periods in 2008. Industry cigarette
shipment volume for the third quarter of 2009 was down 12.6% and down 8.9% in the first nine months
of 2009 compared with prior-year periods. RJR Tobaccos and industry cigarette shipment volume
declines for the full-year 2009 are expected to be higher than prior years as a result of the
increase in the federal excise tax.
The shares of RJR Tobaccos brands as a percentage of total share of U.S. retail cigarette
sales according to Information Resources Inc., referred to as IRI/Capstone(1), were as
follows(2)(3):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
September 30, |
|
June 30, |
|
Share Point |
|
September 30, |
|
Share Point |
|
|
2009 |
|
2009 |
|
Change |
|
2008 |
|
Change |
Growth brands: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CAMEL excluding non-filter |
|
|
7.7 |
% |
|
|
7.5 |
% |
|
|
0.2 |
|
|
|
7.8 |
% |
|
|
(0.1 |
) |
PALL MALL |
|
|
5.0 |
% |
|
|
5.2 |
% |
|
|
(0.2 |
) |
|
|
2.8 |
% |
|
|
2.3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total growth brands |
|
|
12.7 |
% |
|
|
12.7 |
% |
|
|
|
|
|
|
10.5 |
% |
|
|
2.1 |
|
Support brands |
|
|
12.7 |
% |
|
|
13.2 |
% |
|
|
(0.5 |
) |
|
|
14.5 |
% |
|
|
(1.8 |
) |
Non-support brands |
|
|
2.8 |
% |
|
|
2.8 |
% |
|
|
|
|
|
|
3.4 |
% |
|
|
(0.6 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total domestic |
|
|
28.2 |
% |
|
|
28.7 |
% |
|
|
(0.5 |
) |
|
|
28.4 |
% |
|
|
(0.2 |
) |
|
|
|
(1) |
|
Retail share of U.S. cigarette sales data is included in this document
because it is used by RJR Tobacco primarily as an indicator of the
relative performance of industry participants, and brands and market
trends. You should not rely on IRI/Capstone data as being a precise
measurement of actual market share because it uses a sample and
projection methodology that is not able to effectively track all
volume. Moreover, you should be aware that in a product market
experiencing overall declining consumption, a particular product can
experience increasing market share relative to competing products, yet
still be subject to declining consumption volumes. |
|
(2) |
|
Amounts presented in this table are rounded on an individual basis
and, accordingly, may not sum on an aggregate basis. |
|
(3) |
|
In 2009, at the request of RJR Tobacco, the IRI/Capstone model was
revised to better reflect actual retail sales. Prior year data has
been adjusted to reflect the new methodology. |
The retail share of market of CAMELs filtered styles at 7.7 share points in the third quarter
of 2009 was slightly lower than the third quarter of 2008. CAMEL
Crush has captured 0.7 share
points in the third quarter of 2009, as the success of this style continues to be a key driver in the
growing menthol category. RJR Tobacco expanded the use of the capsule technology found in CAMEL
Crush to CAMELs core menthol styles in the third quarter of 2009, giving adult smokers the choice
of two levels of menthol.
CAMEL
Snus was expanded nationally in the first quarter of 2009, and in the
third quarter of 2009,
gained market share of more than 0.3 percent on a cigarette equivalent basis that assumes a can of
snus is equal to a pack of cigarettes. Two new styles of CAMEL Snus will be launched in limited
markets in the fourth quarter of 2009.
PALL MALLs market share increased 2.3 share points in the third quarter of 2009 compared with
the third quarter of 2008. RJR Tobacco believes that recent PALL MALL promotions have converted
many adult smokers to
77
the brand. PALL MALLs growth is believed to be the result of the brands position as a
product that offers a longer-lasting cigarette at a value price.
The combined share of market of RJR Tobaccos growth brands during the first nine months of
2009 showed a strong improvement of 2.1 share points over the same period in 2008.
Operating Income
RJR Tobaccos operating income for the quarter ended September 30, 2009, increased
$228 million to $532 million from $304 million for the quarter ended September 30, 2008. During the
third quarter of 2008, RJR Tobacco recorded an impairment charge of $173 million related to the
reclassification of the KOOL brand from a growth brand to a support brand. Additionally, during the
third quarter of 2008, RJR Tobacco recorded $81 million related to a restructuring to streamline
non-core business processes and programs.
RJR Tobaccos operating income for the nine months ended September 30, 2009, decreased
$98 million to $1,170 million from $1,268 million for the nine months ended September 30, 2008. An
impairment charge of $377 million was recorded in the first quarter of 2009 as the result of
impairment testing to reflect the forecasted sales impact due to the increase in the federal excise
tax. The impairment charge was based on the excess of certain brands carrying value over their
fair value using the present value of estimated future cash flows assuming a discount rate of
10.5%. RJR Tobaccos operating income for the nine months ended September 30, 2009, was favorably
impacted by higher pricing, lower promotional spending and productivity gains resulting from the
2008 restructuring. These gains were more than offset by lower cigarette volume, higher pension
expense, higher legal expense and initial FDA expenses.
RJR Tobaccos expense under the State Settlement Agreements and federal tobacco buyout
expenses, included in cost of products sold, are detailed in the schedule below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
For the Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
|
2009 |
|
|
2008 |
|
|
2009 |
|
|
2008 |
|
Settlements |
|
$ |
630 |
|
|
$ |
686 |
|
|
$ |
1,880 |
|
|
$ |
2,050 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Federal tobacco quota buyout |
|
$ |
58 |
|
|
$ |
57 |
|
|
$ |
173 |
|
|
$ |
180 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenses under the State Settlement Agreements are expected to be approximately $2.5 billion
in 2009, subject to adjustment for changes in volume and other factors, and expense for the federal
tobacco quota buyout is expected to be approximately $225 million to $235 million in 2009. For
additional information, see Litigation Affecting the Cigarette Industry Health-Care Cost
Recovery Cases State Settlement Agreements and Tobacco Buyout Legislation and Related
Litigation in note 11 to condensed consolidated financial statements (unaudited).
Selling, general and administrative expenses include the costs of litigating and administering
product liability claims, as well as other legal expenses. RJR Tobaccos product liability defense
costs were $31 million and $21 million for the three months ended September 30, 2009 and 2008,
respectively; and $92 million and $73 million for the nine months ended September 30, 2009 and
2008, respectively. The increase in product liability defense costs in 2009 compared with 2008 is
due primarily to the increase in Engle Progeny cases. For additional information, see
Individual Smoking and Health Cases Engle Progeny Cases in note 11 to condensed consolidated
financial statements (unaudited).
Product liability cases generally include the following types of smoking and health related
cases:
|
|
|
Individual Smoking and Health; |
|
|
|
|
West Virginia IPIC; |
|
|
|
|
Engle Progeny; |
|
|
|
|
Broin II; |
78
|
|
|
Class Actions; and |
|
|
|
|
Health-Care Cost Recovery Claims. |
Product liability defense costs include the following items:
|
|
|
direct and indirect compensation, fees and related costs and expenses for internal
legal and related administrative staff administering product liability claims; |
|
|
|
|
fees and cost reimbursements paid to outside attorneys; |
|
|
|
|
direct and indirect payments to third party vendors for litigation support activities; |
|
|
|
|
expert witness costs and fees; and |
|
|
|
|
payments to fund legal defense costs for the now dissolved Council for Tobacco
Research U.S.A. |
Numerous factors affect product liability defense costs. The most important factors are the
number of cases pending and the number of cases in trial or in preparation for trial, that is, with
active discovery and motions practice. See Litigation Affecting the Cigarette Industry
Overview in note 11 to condensed consolidated financial statements (unaudited) for detailed
information regarding the number and type of cases pending, and Litigation Affecting the
Cigarette Industry Scheduled Trials in note 11 to condensed consolidated financial statements
(unaudited) for detailed information regarding the number and nature of cases in trial and
scheduled for trial through September 30, 2010.
RJR Tobacco expects that the factors described above will continue to have the primary impact
on its product liability defense costs in the future. Given the increased level of activity in RJR
Tobaccos pending cases, including the increased number of cases in trial and scheduled for trial,
RJR Tobaccos product liability defense costs have increased in 2009 compared with the most recent
years. In addition, it is possible that other adverse developments in the factors discussed above,
as well as other circumstances beyond the control of RJR Tobacco, could have a material adverse
effect on the consolidated results of operations, cash flows or financial position of RAI or its
subsidiaries. Those other circumstances beyond the control of RJR Tobacco include the results of
present and future trials and appeals, and the development of possible new theories of liability by
plaintiffs and their counsel.
Conwood
Net Sales
The moist snuff shipment volume, in millions of cans, for Conwood was as
follows(1):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended September 30, |
|
For the Nine Months Ended September 30, |
|
|
2009 |
|
2008 |
|
% Change |
|
2009 |
|
2008 |
|
% Change |
Premium: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
KODIAK |
|
|
12.6 |
|
|
|
13.6 |
|
|
|
(7.1 |
)% |
|
|
35.5 |
|
|
|
39.5 |
|
|
|
(10.0 |
)% |
Other |
|
|
0.8 |
|
|
|
0.7 |
|
|
|
9.6 |
% |
|
|
2.2 |
|
|
|
2.1 |
|
|
|
3.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
13.4 |
|
|
|
14.3 |
|
|
|
(6.2 |
)% |
|
|
37.7 |
|
|
|
41.6 |
|
|
|
(9.3 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Price-value: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
GRIZZLY |
|
|
80.7 |
|
|
|
69.8 |
|
|
|
15.6 |
% |
|
|
226.5 |
|
|
|
205.9 |
|
|
|
10.0 |
% |
Other |
|
|
0.3 |
|
|
|
0.4 |
|
|
|
(28.9 |
)% |
|
|
0.9 |
|
|
|
1.3 |
|
|
|
(29.0 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
81.0 |
|
|
|
70.2 |
|
|
|
15.3 |
% |
|
|
227.4 |
|
|
|
207.2 |
|
|
|
9.7 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total moist snuff |
|
|
94.4 |
|
|
|
84.5 |
|
|
|
11.7 |
% |
|
|
265.1 |
|
|
|
248.8 |
|
|
|
6.6 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Amounts presented in this table are rounded on an individual basis
and, accordingly, may not sum on an aggregate basis. Percentages are
calculated on unrounded numbers. |
79
Conwoods net sales for the three months ended September 30, 2009, were $177 million, a
decrease of $4 million compared with net sales of $181 million for the three months ended
September 30, 2008. Net sales for the nine months ended September 30, 2009, were $512 million, a
decrease of $24 million compared with net sales of $536 million for the nine months ended
September 30, 2008. GRIZZLY, Conwoods leading price-value moist snuff brand, continues to grow
moist snuff sales and was the leading brand in the U.S. as of September 30, 2009. During the first
quarter of 2009, pricing was significantly reduced by a competitor on its premium and certain
price-value brands in an attempt to gain market share. KODIAK, Conwoods leading premium moist
snuff brand, reduced pricing at the end of the first quarter of 2009 to stabilize performance and
remain competitive. This price reduction on KODIAK and a delay in the price increase on GRIZZLY to
cover the additional federal excise tax were the primary drivers of the decrease in sales during
2009 compared with 2008.
The Conwood shares of the moist snuff category as a percentage of total share of
U.S. shipments of moist snuff, according to distributor reported data(1) processed by
MSAi, were as follows(2):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended |
|
|
September 30, |
|
June 30, |
|
Share |
|
September 30, |
|
Share |
|
|
2009 |
|
2009 |
|
Point Change |
|
2008 |
|
Point Change |
Premium: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
KODIAK |
|
|
3.9 |
% |
|
|
3.7 |
% |
|
|
0.2 |
|
|
|
4.1 |
% |
|
|
(0.2 |
) |
Other |
|
|
0.3 |
% |
|
|
0.2 |
% |
|
|
0.1 |
|
|
|
0.2 |
% |
|
|
0.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4.2 |
% |
|
|
3.9 |
% |
|
|
0.3 |
|
|
|
4.3 |
% |
|
|
(0.1 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Price-value: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
GRIZZLY |
|
|
25.6 |
% |
|
|
25.4 |
% |
|
|
0.2 |
|
|
|
23.5 |
% |
|
|
2.1 |
|
Other |
|
|
0.1 |
% |
|
|
0.1 |
% |
|
|
|
|
|
|
0.2 |
% |
|
|
(0.1 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
25.7 |
% |
|
|
25.5 |
% |
|
|
0.2 |
|
|
|
23.7 |
% |
|
|
2.1 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total moist snuff |
|
|
29.9 |
% |
|
|
29.4 |
% |
|
|
0.5 |
|
|
|
28.0 |
% |
|
|
1.9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Distributor shipments-to-retail share of U.S. moist snuff is included
in this document because it is used by Conwood primarily as an
indicator of the relative performance of industry participants, and
brands and market trends. You should not rely on the market share data
reported by distributors and processed by MSAi as being a precise
measurement of actual market share because this distributor data set
is not able to effectively track all volume. |
|
(2) |
|
Amounts presented in this table are rounded on an individual basis
and, accordingly, may not sum on an aggregate basis. |
Moist snuff has been the key driver to Conwoods overall growth and profitability within the
U.S. smokeless tobacco market. Moist snuff accounted for approximately 73% of Conwoods revenue in
the third quarter of 2009 and approximately 70% for the first nine months of 2009, compared with
approximately 67% of Conwoods revenue in the third quarter of 2008 and approximately 66% for the
first nine months of 2008. Conwoods U.S. moist snuff market share was 29.9% in the third quarter
of 2009 and 28.0% in the third quarter of 2008 based on distributor-reported data processed by
MSAi, for distributor shipments to retail. Moist snuff industry shipment volume grew over 3.5% in
the first nine months of 2009 compared with the same period in 2008.
GRIZZLY had a 25.6% share of moist snuff shipments in the third quarter of 2009, an increase
of 2.1 share points from the third quarter of 2008, due in part to the success of new GRIZZLY
styles. GRIZZLY launched mint and straight pouch styles in the first quarter of 2009. In the
industry, pouch styles have grown almost 25% in 2009 and now account for over 7% of moist snuff
sales. GRIZZLYs pouch styles generated two-thirds of the pouch growth in the industry during
2009.
80
Conwood launched CAMEL Dip, a premium moist snuff, in two styles, Wintergreen Wide Cut and
Dark Milled, in lead markets during the second quarter of 2009.
The shipment share of KODIAK declined 0.2 share points in the third quarter of 2009 compared
with the third quarter of 2008 due to competitive promotional activity and the brands core markets
being burdened by high tobacco taxes and the current economic recession. KODIAKs price reduction
during March 2009 aligned KODIAK with other premium brands, making it more competitive, which
Conwood believes will stabilize the brands performance.
Operating Income
Conwoods operating income for the three months ended September 30, 2009, decreased $5 million
from $98 million for the three months ended September 30, 2008. Operating income for the first
nine months of 2009 was $193 million, a decrease of $82 million over the first nine months of 2008,
primarily impacted by a trademark impairment charge of $76 million. The impairment charge was a
result of impairment testing triggered by certain price reductions and the anticipated sales impact
due to the increase in the federal excise tax effective April 1, 2009. The 2009 impairment occurred
on several of Conwoods brands, including KODIAK, driven by the decrease in its list price to meet
competition, as well as the federal excise tax impact on multiple loose leaf and little cigar
brands. The impairment charge was based on the excess of certain brands carrying value over their
fair value using the present value of estimated future cash flows assuming a discount rate of
10.5%.
Conwoods operating income for the first nine months of 2009 was also unfavorably impacted by
the temporary absorption of the federal excise tax increase on moist snuff as well as lower margins
on KODIAK.
RAI Consolidated
Interest and debt expense was $60 million for the quarter and $190 million for the nine months
ended September 30, 2009, decreases of $8 million and $18 million from the respective comparable
periods in the prior year. These decreases were primarily due to lower effective interest rates in
2009 as compared with 2008.
Interest income was $5 million for the quarter and $15 million for the nine months ended
September 30, 2009, decreases of $11 million and $36 million compared with the quarter and nine
months ended September 30, 2008, respectively. These decreases were the result of investing
available cash at lower interest rates in 2009.
Other expense, net was $2 million
for the quarter ended September 30, 2009, and $13 million for
the quarter ended September 30, 2008. For the nine months ended September 30, 2009, other expense,
net was $9 million and $3 million for the nine months ended September 30, 2008.
Provision for income taxes was $217 million, for an effective rate of 37.5%, for the three
months ended September 30, 2009, compared with $123 million, for an effective rate of 36.8%, for
the three months ended September 30, 2008. The provision for income taxes was $451 million, for an
effective rate of 37.6%, for the nine months ended September 30, 2009, compared with $630 million,
for an effective rate of 36.8%, for the nine months ended September 30, 2008. The effective tax
rate for the first nine months of 2009 was unfavorably impacted by increases in unrecognized income
tax benefits and increases in tax attributable to accumulated and undistributed foreign earnings.
The 2008 provision was favorably impacted by a lower tax rate related to the gain on the
termination of the Reynolds-Gallaher International Sarl joint venture, but was offset by
unfavorability related to tax reserves and U.S. taxes recorded on foreign earnings. RAI expects its
effective rate for the full-year of 2009 to be approximately 38.0%. The effective tax rates
exceeded the federal statutory rate of 35% primarily due to the impact of state taxes and certain
non-deductible items, offset by the domestic production activities deduction of the American Jobs
Creation Act of 2004.
Liquidity and Financial Condition
Liquidity
At present, the principal sources of liquidity for RAIs operating subsidiaries businesses
and operating needs are internally generated funds from their operations and intercompany loans and
advances, mainly from RAI and RJR. The principal capital resources and sources of liquidity for RAI
and RJR, in turn, are proceeds from issuances of
81
debt securities by RAI and RJR and the RAI credit facility described below under Borrowing
Arrangements. Cash flows from operating activities are believed to be sufficient for the
foreseeable future to enable the operating subsidiaries to meet their obligations under the State
Settlement Agreements, to fund their capital expenditures and to make payments to RAI and RJR that,
when combined with RAIs and RJRs cash balances, will enable RAI and RJR to make their required
debt-service payments, and enable RAI to pay dividends to its shareholders.
Generally, the negative impact, if any, on the sources of liquidity that could result from a
decrease in demand for products due to short-term inventory adjustments by wholesale and retail
distributors, changes in competitive pricing, accelerated declines in consumption, particularly
from increases in regulation or excise taxes, or adverse impacts from financial markets, cannot be
predicted.
RAI cannot predict its cash requirements or those of its subsidiaries related to any future
settlements or judgments, including cash required to be held in escrow or to bond any appeals, if
necessary, and RAI makes no assurance that it or its subsidiaries will be able to meet all of those
requirements.
RAI has evaluated the liquidity of key suppliers and significant customers as of September 30,
2009. Where there were liquidity concerns identified with key suppliers, contingency plans are
being developed. To date, no business interruptions have occurred caused by key supplier liquidity.
No liquidity issues were identified regarding significant customers.
As of September 30, 2009, RAI held investments primarily in money market funds, auction rate
securities, a mortgage-backed security and a marketable equity security. Certain money market funds
are classified as short-term investments due to liquidity restrictions by the fund managers
preventing immediate withdrawal. Given such restrictions, these funds will not be available until
the underlying investments mature or are sold. Adverse changes in financial markets caused the
auction rate securities and the mortgage-backed security to revalue lower than carrying value and
become less liquid. The auction rate securities and mortgage-backed security will not become liquid
until a successful auction occurs or a buyer is found. RAI intends, and has the ability, to hold
these money market funds, auction rate securities and mortgage-backed security for a period of time
sufficient to allow for sale, redemption or anticipated recovery in fair value. At September 30,
2009, RAI considered the mortgage-backed security, the auction rate securities linked to corporate
credit risk and one of the auction rate securities related to financial insurance companies to be
temporarily impaired.
Cash Flows
Net cash flows from operating activities were $889 million in the first nine months of 2009,
compared with net cash flows from operating activities of $828 million in the first nine months of
2008. This change was driven primarily by the partial retention of the 2009 MSA payment and lower
taxes paid, partially offset by higher pension payments, higher litigation bonds posted in the
first nine months of 2009, as well as lower interest received in 2009.
Net cash flows used in investing activities were $17 million in the first nine months of 2009,
compared with cash flows from investing activities of $264 million for the first nine months of
2008. The 2008 amount included higher proceeds from the termination of the joint venture as well
as higher proceeds from short-term investments.
Net cash flows used in financing activities were $946 million in the first nine months of
2009, compared with $955 million in the prior-year period. Dividends paid on common stock in 2009
were lower as a result of the share repurchase program. Although common stock repurchases were
lower in 2009 when compared with 2008, they were nearly offset by long-term debt repaid in 2009.
Borrowing Arrangements
The principal amount of RAIs and RJRs outstanding long-term notes were $4.2 billion as of
September 30, 2009. RAI and RJR use interest rate swaps to manage interest rate risk on a portion
of their debt obligations. As of September 30, 2009, RAI and RJR have effectively converted
$1.6 billion of fixed-rate notes swapped to a variable rate of interest, to a fixed rate of
interest of approximately 4.0%. For additional information regarding RAIs interest rate swap
transactions, see note 10 to the condensed consolidated financial statements (unaudited).
82
At their option, RAI and RJR, as applicable, may redeem any or all of their outstanding
fixed-rate notes, in whole or in part at any time, subject to the payment of a make-whole premium.
RAIs floating rate notes are redeemable at par on any interest payment date after December 15,
2008.
On June 28, 2007, RAI entered into a Fifth Amended and Restated Credit Agreement, which, as
subsequently amended, provides for a five-year, $498 million revolving credit facility, which may
be increased up to $848 million at the discretion of the lenders upon the request of RAI. For
additional information regarding RAIs credit facility, see note 9 to the condensed consolidated
financial statements (unaudited).
At September 30, 2009, RAI had $15 million in letters of credit outstanding under the credit
facility. At such date, no borrowings were outstanding, and the remaining $483 million of the
credit facility was available for borrowing.
Concerns about, or lowering of, RAIs ratings by S&P or Moodys could have an adverse impact
on RAIs ability to access the debt markets and could increase borrowing costs. However, given the
cash balances and operating performance of RAI and its subsidiaries, RAIs management believes that
such concerns about, or lowering of, such ratings would not have a material adverse impact on RAIs
cash flows.
RAI, RJR and their affiliates were in compliance with all covenants and restrictions imposed
by their indebtedness at September 30, 2009.
Dividends
On May 6, 2009, RAIs board of directors declared a quarterly cash dividend of $0.85 per
common share. The dividend was paid on July 1, 2009, to shareholders of record as of June 10, 2009.
On July 16, 2009, RAIs board of directors declared a quarterly cash dividend of $0.85 per
common share. The dividend was paid on October 1, 2009, to shareholders of record as of
September 10, 2009.
On October 6, 2009, RAIs board of directors declared a quarterly cash dividend of $0.90 per
common share. The dividend will be paid on January 4, 2010, to shareholders of record as of
December 10, 2009. On an annualized basis, the dividend rate is $3.60 per common share. The
current dividend reflects RAIs policy of paying dividends to the holders of RAIs common stock in
an aggregate amount that is approximately 75% of RAIs annual consolidated net income.
Stock Repurchases
Due to RAIs incorporation in North Carolina, which does not recognize treasury shares, any
shares of RAI common stock repurchased by RAI are cancelled at the time of repurchase. During the
first nine months of 2009, at a cost of $5 million, RAI purchased 152,155 shares that were
forfeited with respect to tax liabilities associated with restricted stock vesting under its LTIP.
The $350 million share repurchase program approved by RAIs board of directors on April 29,
2008, authorizing RAI to repurchase outstanding shares of RAI common stock in open-market or
privately negotiated transactions, from time to time, expired on April 30, 2009. In connection
with this share repurchase program, RAI and B&W entered into an agreement, pursuant to which B&W
participated in the repurchase program on a basis approximately proportionate with B&Ws 42%
ownership of RAIs equity. RAI repurchased $207 million of its common stock pursuant to the
foregoing share repurchase program.
Capital Expenditures
RAIs operating subsidiaries recorded cash capital expenditures of $75 million and $95 million
for the first nine months of 2009 and 2008, respectively. The decrease was primarily the result of
lower information technology spending and lower discretionary spending at RJR Tobacco. RAIs
operating subsidiaries plan to spend an additional $70 million to $80 million for capital
expenditures during the remainder of 2009. Approximately $50 million of the remaining capital
expenditures for 2009 is associated with capacity expansion and FDA compliance at Conwood. Capital
expenditures are funded primarily by cash flows from operations. RAIs operating subsidiaries
capital
83
expenditure programs are expected to continue at a level sufficient to support their strategic
and operating needs. There were approximately $13 million of material long-term commitments for
capital expenditures as of September 30, 2009.
Retirement Benefits
RAI expects to contribute up to $295 million to its pension plans in 2009, of which $168
million had been contributed as of September 30, 2009. The remaining $127 million will be
contributed in the fourth quarter of 2009. RAI increased the expected 2009 contribution amount
from what it had anticipated in the first quarter of 2009 to allow RAI to achieve targeted funded
status and possibly reduce RAIs future contributions.
Litigation and Settlements
RJR Tobacco, the Conwood companies and their affiliates, including RAI, and indemnitees,
including B&W, have been named in a number of tobacco-related legal actions, proceedings or claims
seeking damages in amounts ranging into the hundreds of millions or even billions of dollars. For
further discussion of specific cases, see note 11 to condensed consolidated financial statements
(unaudited). Unfavorable judgments have been returned in a number of tobacco-related cases and
state enforcement actions. As of October 9, 2009, RJR Tobacco has paid approximately $7 million
since January 1, 2007, related to unfavorable judgments. As of September 30, 2009, RJR Tobacco had
$2 million accrued for non-smoking and health litigation, and RJR, including its subsidiary RJR
Tobacco, had liabilities totaling $94 million that were recorded in connection with certain
non-smoking and health indemnification claims asserted by JTI relating to certain activities of
Northern Brands and related litigation.
Litigation is subject to many uncertainties, and generally it is not possible to predict the
outcome of the litigation pending against RJR Tobacco, the Conwood companies or their affiliates or
indemnitees, or to reasonably estimate the amount or range of any possible loss. Moreover,
notwithstanding the quality of defenses available to it and its affiliates in tobacco-related
litigation matters, it is possible that RAIs consolidated results of operations, cash flows or
financial position could be materially adversely affected by the ultimate outcome of certain
pending or future litigation matters or difficulties in obtaining the bonds required to stay
execution of judgments on appeal.
In November 1998, RJR Tobacco, B&W and the other major U.S. cigarette manufacturers entered
into the MSA with attorneys general representing most U.S. states, territories and possessions. As
described in note 11 to condensed consolidated financial statements (unaudited), the State
Settlement Agreements impose a perpetual stream of future payment obligations on RJR Tobacco and
the other major U.S. cigarette manufacturers, and place significant restrictions on their ability
to market and sell cigarettes in the future. For more information related to historical and
expected settlement expenses and payments under the State Settlement Agreements, see Litigation
Affecting the Cigarette Industry Health-Care Cost Recovery Cases State Settlement Agreements
in note 11 to condensed consolidated financial statements (unaudited). The State Settlement
Agreements have materially adversely affected RJR Tobaccos shipment volumes. RAI believes that
these settlement obligations may materially adversely affect the results of operations, cash flows
or financial position of RAI and RJR Tobacco in future periods.
RJR Tobacco and certain of the other participating manufacturers under the MSA are currently
involved in litigation with the settling states with respect to the availability for certain market
years of a downward adjustment to the annual MSA settlement payment obligation, known as the
Non-Participating Manufacturer Adjustment. RJR Tobacco has disputed a total of $2.9 billion for the
years 2003 through 2008. For more information related to this litigation, see Litigation
Affecting the Cigarette Industry Health-Care Cost Recovery Cases State Settlement Agreements
Enforcement and Validity in note 11 to condensed consolidated financial statements (unaudited).
84
Governmental Activity
The marketing, sale, taxation and use of tobacco products have been subject to substantial
regulation by government and health officials for many years. Various state governments have
adopted or are considering, among other things, legislation and regulations that would:
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significantly increase taxes on tobacco products; |
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restrict displays, advertising and sampling of tobacco products; |
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establish fire standards compliance for cigarettes; |
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raise the minimum age to possess or purchase tobacco products; |
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restrict or ban the use of certain flavorings, including menthol, in tobacco products,
or the use of certain flavor descriptors in the marketing of tobacco products; |
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require the disclosure of ingredients used in the manufacture of tobacco products; |
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require the disclosure of nicotine yield information for cigarettes; |
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impose restrictions on smoking in public and private areas; and |
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restrict the sale of tobacco products directly to consumers or other unlicensed
recipients, including over the Internet. |
In addition, as described in greater detail below, during 2009, the U.S. Congress adopted
legislation increasing the federal excise tax on cigarettes and other tobacco products, and
granting the FDA broad authority over the manufacture, sale, marketing and packaging of tobacco
products. The U.S. Congress also may consider legislation regarding:
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regulation of environmental tobacco smoke; |
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implementation of a national fire standards compliance for cigarettes; |
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regulation of the retail sale of tobacco products over the Internet and in other
non-face-to-face retail transactions, such as by mail order and telephone; and |
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banning of the delivery of tobacco products by the U.S. Postal Service. |
Together with manufacturers price increases in recent years and substantial increases in
state and federal excise taxes on tobacco products, these developments have had and will likely
continue to have an adverse effect on the sale of tobacco products.
Cigarettes and other tobacco products are subject to substantial taxes in the United States.
On February 4, 2009, President Obama signed into law, effective April 1, 2009, an increase of $0.62
in the excise tax per pack of cigarettes, and significant tax increases on other tobacco products,
to fund expansion of the SCHIP.
Under these federal tax increases:
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the federal excise tax per pack of 20 cigarettes increased to $1.01; |
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the federal excise tax rate for chewing tobacco increased $0.3083 per pound to
$0.5033 per pound, and for snuff increased $0.925 per pound to $1.51 per pound; |
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the federal excise tax on small cigars, defined as those weighing three pounds or
less per thousand, increased $48.502 per thousand to $50.33 per thousand; and |
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the federal excise tax rate for roll-your-own tobacco increased from $1.097 per
pound to $24.78 per pound. |
85
RAIs operating subsidiaries believe that these federal excise tax increases have had, and
will continue to have, a significant and adverse impact on sales volume. This event required the
testing for impairment of the carrying value of trademarks and goodwill during the first quarter of
2009. See note 3 to condensed consolidated financial statements (unaudited) for information
regarding trademark and goodwill impairment testing and the resulting trademark impairment charge.
All states and the District of Columbia currently impose cigarette excise taxes at levels
ranging from $0.07 per pack in South Carolina to $3.46 per pack in Rhode Island. As of September
30, 2009, the weighted average state cigarette excise tax per pack, calculated on a 12-month
rolling average basis, was approximately $1.14, compared with the 12-month rolling average of $1.00
as of December 31, 2008. As of September 30, 2009, 13 states and the District of Columbia had
passed cigarette excise tax increases since January 1, 2009, and a number of other states were
considering an increase in their cigarette excise taxes for 2009. Certain city and county
governments, such as New York and Chicago, also impose substantial excise taxes on cigarettes sold
in those jurisdictions.
Cigars generally are taxed by states on an ad valorem basis, ranging from 5% in South Carolina
to 80% in Rhode Island. Other states have unit-based tax schemes for cigars or tax little cigars
the same as cigarettes.
Forty-nine states and the District of Columbia also subject smokeless tobacco to excise taxes,
and the Commonwealth of Pennsylvania, the singular exception, may enact such a tax during its 2009
legislative session. As of September 30, 2009, 33 states taxed moist snuff, and 44 states taxed
chewing tobacco, on an ad valorem basis at rates that range from 5% in South Carolina to 100% in
Wisconsin. Other states have a unit tax or a weight-based tax. During the period from January 1,
2009 through September 30, 2009, three states and the District of Columbia enacted legislation
changing from an ad valorem to a weight-based taxation system on moist snuff. One state and the
District of Columbia changed to a weight-based system not only for moist snuff, but also for other
tobacco products, including chewing tobacco and dry snuff. During this same period, one state
passed legislation that changed its tax on moist snuff from weight-based to ad valorem. In total,
as of September 30, 2009, 16 states passed tax increases on other tobacco products, and a number of
other states are considering an increase in their taxes on other tobacco products for 2009.
On July 16, 2009, Oregon enacted a statute including a requirement that smokeless tobacco
manufacturers who are not signatories to the Smokeless Tobacco Master Settlement Agreement either certify compliance with certain requirements imposed by the STMSA or place into
escrow $0.40 for every unit of smokeless tobacco sold in the state as security against certain types
of claims that might be brought by Oregon or other Releasing Parties under the STMSA. On
September 4, 2009, Conwood Company, LLC, among others, brought suit in Circuit Court, Madison
County, Oregon (Conwood Company, LLC v. Kroger) to enjoin the enforcement of this Oregon statute
contending the statute violates the constitutions of Oregon and the United States. For further
information regarding this case, see note 11 to the condensed consolidated financial statements
(unaudited).
On
June 22, 2009, President Obama signed into law the Family Smoking Prevention and Tobacco
Control Act. Under the FDA Tobacco Act, the FDA has been granted broad authority over the
manufacture, sale, marketing and packaging of tobacco products. Among other things, and under
various deadlines from 90 days to over 39 months, the FDA will:
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require different and larger warnings on packaging and advertising for cigarettes and
smokeless tobacco products; |
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require practically all tobacco product advertising to eliminate color and imagery and
instead consist solely of black text on white background; |
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ban the use of descriptors on tobacco products, such as low-tar and light; |
86
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ban the use of characterizing flavors in cigarettes (other than menthol, which under the
FDA Tobacco Act is specifically exempt as a characterizing flavor but the impact of which on
public health will be studied as discussed below); |
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require manufacturers to obtain FDA clearance for cigarette and smokeless tobacco
products commercially launched or to be launched after February 15, 2007; |
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require pre-market approval by the FDA for claims made with respect to reduced risk or
reduced exposure products; |
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require manufacturers to report ingredients and harmful constituents; |
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require manufacturers to test ingredients and constituents identified by FDA and disclose
this information to the public; |
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prohibit use of tobacco containing a pesticide chemical residue at a level greater than
allowed under Federal law; |
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establish good manufacturing practices to be followed at tobacco manufacturing
facilities; |
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be authorized to place more severe restrictions on the advertising, marketing and sale of
tobacco products; |
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permit inconsistent state regulation of labeling and advertising and eliminate the
existing federal preemption of such regulation; |
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be authorized to require the reduction of nicotine and the reduction or elimination of
other constituents; and |
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grant the FDA the regulatory authority to impose broad additional restrictions. |
The U.S. Congress did limit the FDAs authority in two areas, prohibiting it from:
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banning all tobacco products; and |
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requiring the reduction of nicotine yields of a tobacco product to zero. |
A Center for Tobacco Products has been established within the FDA, funded through quarterly
user fees that will be assessed against tobacco product manufacturers and importers based on market
share. The total amount of user fees to be collected over the first ten years will be
approximately $5.4 billion. RAIs operating subsidiaries estimate the 2009 expense related to
their FDA user fees will be approximately $20 million to $25 million, $6 million of which was
expensed through the third quarter of 2009, and the expense for 2010 will be approximately $75 million
to $85 million.
Within the Center, a Tobacco Products Scientific Advisory Committee will be created to provide
advice, information and recommendations with respect to the safety, dependence or health issues
related to tobacco products, including:
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a recommendation on modified risk applications; |
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a recommendation as to whether there is a threshold level below which nicotine yields
do not produce dependence; |
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a report on the impact of the use of menthol in cigarettes on the public health; and |
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a report on the impact of dissolvable tobacco products on the public health. |
87
On August 31, 2009, RJR Tobacco and Conwood joined other tobacco manufacturers and a tobacco
retailer in filing a lawsuit in the U.S. District Court for the Western District of Kentucky
(Commonwealth Brands, Inc. v. United States of America), challenging certain provisions of the FDA
Tobacco Act that severely restrict the few remaining channels available to communicate with adult
tobacco consumers. RAI believes these provisions cannot be justified on any basis consistent with
the demands of the First Amendment. The suit does not challenge the U.S. Congresss decision to
give the FDA regulatory authority over tobacco products, nor does it challenge the vast majority of
the provisions of the new law.
It is likely that the FDA Tobacco Act could result in a decrease in cigarette and smokeless
tobacco sales in the United States, including sales of RJR Tobaccos and Conwoods brands, and an
increase in costs to RJR Tobacco and Conwood that could have a material adverse effect on RAIs
financial condition, results of operations and cash flows. RAI believes that such regulation may
adversely affect the ability of its operating subsidiaries to compete against their larger
competitor, Philip Morris USA, Inc., which may be able to more quickly and cost-effectively comply
with these new rules and regulations.
In 2003, the New York Office of Fire Prevention and Control issued a final standard with
accompanying regulations that required all cigarettes offered for sale in New York State after June
28, 2004, to achieve specified test results when placed on ten layers of filter paper in controlled
laboratory conditions. As of September 30, 2009, 48 states in addition to New York, as well as
Washington, D.C., have enacted fire standard compliance legislation of their own, adopting the same
testing standard set forth in the New York regulations described above. The cigarettes that RAIs
operating companies sell in these states comply with this standard. Wyoming remains the only
state to have not enacted this type of legislation. Recognizing these legislative trends in
conjunction with its effort to increase productivity and reduce complexity, RJR Tobacco announced,
on October 25, 2007, its plans to voluntarily convert all of its brands to fire standard compliance
paper by the end of 2009.
It is not possible to determine what additional federal, state or local legislation or
regulations relating to smoking or cigarettes will be enacted or to predict the effect of new
legislation or regulations on RJR Tobacco or the cigarette industry in general, but any new
legislation or regulations could have an adverse effect on RJR Tobacco or the cigarette industry in
general. Similarly, it is not possible to determine what additional federal, state or local
legislation or regulations relating to smokeless tobacco products will be enacted or to predict the
effect of new regulation on Conwood or smokeless tobacco products in general, but any new
legislation or regulations could have an adverse effect on Conwood or smokeless tobacco products in
general.
Tobacco Buyout Legislation
For information relating to tobacco buyout legislation, see Tobacco Buyout Legislation and
Related Litigation in note 11 to condensed consolidated financial statements (unaudited).
Other Contingencies
For information relating to other contingencies of RAI, RJR, RJR Tobacco and Conwood, see
Other Contingencies in note 11 to condensed consolidated financial statements (unaudited).
Off-Balance Sheet Arrangements
RAI has no off-balance sheet arrangements that have or are reasonably likely to have a current
or future material effect on its financial position, results of operations, liquidity, capital
expenditures or capital resources.
Cautionary Information Regarding Forward-Looking Statements
Statements included in this report that are not historical in nature are forward-looking
statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform
Act of 1995. These statements regarding future events or the future performance or results of RAI
and its subsidiaries inherently are subject to a variety of risks and uncertainties that could
cause actual results to differ materially from those described in the forward-looking statements.
These risks and uncertainties include:
88
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the substantial and increasing taxation and regulation of tobacco products, including
the recent federal excise tax increases, and the regulation of tobacco products by the FDA; |
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the possibility that the FDA will issue a regulation prohibiting menthol as a flavor in
cigarettes or that the FDA will extend the ban on characterizing flavors to smokeless
tobacco products; |
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various legal actions, proceedings and claims relating to the sale, distribution,
manufacture, development, advertising, marketing and claimed health effects of tobacco
products that are pending or may be instituted against RAI or its subsidiaries; |
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the potential difficulty of obtaining bonds as a result of litigation outcomes; |
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the substantial payment obligations with respect to cigarette sales, and the
substantial limitations on the advertising and marketing of cigarettes (and RJR Tobaccos
smokeless tobacco products) under the State Settlement Agreements; |
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the continuing decline in volume in the domestic cigarette industry and RAIs
dependence on the U.S. cigarette industry; |
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concentration of a material amount of sales with a single customer or distributor; |
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competition from other manufacturers, including industry consolidations or any new entrants in the marketplace; |
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increased promotional activities by competitors, including deep-discount cigarette
brands; |
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the success or failure of new product innovations and acquisitions; |
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the responsiveness of both the trade and consumers to new products, marketing
strategies and promotional programs; |
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the ability to achieve efficiencies in the businesses of RAIs operating companies,
including outsourcing functions, without negatively affecting sales; |
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the reliance on a limited number of suppliers for certain raw materials; |
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the cost of tobacco leaf and other raw materials and other commodities used in
products; |
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the effect of market conditions on foreign currency exchange rate risk, interest rate
risk and the return on corporate cash; |
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declining liquidity in the financial markets, including bankruptcy of lenders
participating in the credit facility; |
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the impairment of goodwill and other intangible assets, including trademarks; |
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the effect of market conditions on the performance of pension assets or any adverse
effects of any new legislation or regulations changing pension expense accounting or
required pension funding levels; |
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the substantial amount of RAI debt; |
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the credit rating of RAI and its securities; |
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any restrictive covenants imposed under RAIs debt agreements; |
89
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the possibility of fire, violent weather and other disasters that may adversely affect
manufacturing and other facilities; |
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the significant ownership interest of B&W, RAIs largest shareholder, in RAI and the
rights of B&W under the governance agreement between the companies; |
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the expiration of the standstill provisions of the governance agreement; and |
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the potential existence of significant deficiencies or material weaknesses in internal
control over financial reporting that may be identified during the performance of testing
required under Section 404 of the Sarbanes-Oxley Act of 2002. |
Due to these uncertainties and risks, you are cautioned not to place undue reliance on these
forward-looking statements, which speak only as of the date of this report. Except as provided by
federal securities laws, RAI is not required to publicly update or revise any forward-looking
statement, whether as a result of new information, future events or otherwise.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
Market risk represents the risk of loss that may impact the consolidated results of
operations, cash flows and financial position due to adverse changes in financial market prices and
rates. RAI and its subsidiaries are exposed to interest rate risk directly related to their normal
investing and funding activities. In addition, RAI and its subsidiaries have immaterial exposure to
foreign currency exchange rate risk related primarily to purchases and foreign operations
denominated in euros, British pounds, Swiss francs, Chinese renminbi and Japanese yen. RAI and its
subsidiaries have established policies and procedures to manage their exposure to market risks and
use major institutions as counterparties to minimize their investment and credit risk. Frequently,
these institutions are also members of the bank group that provide RAI credit, and management
believes this further minimizes the risk of nonperformance. Derivative financial instruments are
not used for trading or speculative purposes.
The table below provides information, as of September 30, 2009, about RAIs financial
instruments that are sensitive to changes in interest rates. The table presents notional amounts
and weighted average interest rates by contractual maturity dates for the years ending December 31:
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Fair |
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2009 |
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2010 |
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2011 |
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2012 |
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2013 |
|
Thereafter |
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Total |
|
Value(1) |
Investments: |
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Variable Rate |
|
$ |
2,471 |
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|
$ |
21 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
30 |
|
|
$ |
2,522 |
|
|
$ |
2,522 |
|
Average Interest Rate |
|
|
0.1 |
% |
|
|
1.0 |
% |
|
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|
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|
|
2.1 |
% |
|
|
0.1 |
% |
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|
Fixed-Rate |
|
$ |
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|
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
7 |
|
|
$ |
7 |
|
|
$ |
7 |
|
Average Interest Rate(2) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4.7 |
% |
|
|
4.7 |
% |
|
|
|
|
Debt: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed-Rate |
|
$ |
|
|
|
$ |
300 |
|
|
$ |
|
|
|
$ |
450 |
|
|
$ |
685 |
|
|
$ |
2,375 |
|
|
$ |
3,810 |
|
|
$ |
3,941 |
|
Average Interest Rate(2) |
|
|
|
|
|
|
6.5 |
% |
|
|
|
|
|
|
7.3 |
% |
|
|
7.4 |
% |
|
|
7.3 |
% |
|
|
7.2 |
% |
|
|
|
|
Variable Rate |
|
$ |
|
|
|
$ |
|
|
|
$ |
400 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
400 |
|
|
$ |
392 |
|
Average Interest Rate(2) |
|
|
|
|
|
|
|
|
|
|
1.3 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1.3 |
% |
|
|
|
|
Swaps Fixed to Floating: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Notional Amount(3) |
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
350 |
|
|
$ |
|
|
|
$ |
1,150 |
|
|
$ |
1,500 |
|
|
$ |
231 |
|
Average Variable
Interest Pay Rate(2) |
|
|
|
|
|
|
|
|
|
|
|
|
|
2.3 |
% |
|
|
|
|
|
|
1.7 |
% |
|
|
1.9 |
% |
|
|
|
|
Average Fixed Interest
Receive Rate(2) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
7.3 |
% |
|
|
|
|
|
|
7.1 |
% |
|
|
7.1 |
% |
|
|
|
|
Swaps Floating to Fixed: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
90
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair |
|
|
2009 |
|
2010 |
|
2011 |
|
2012 |
|
2013 |
|
Thereafter |
|
Total |
|
Value(1) |
Notional Amount(3) |
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
350 |
|
|
$ |
|
|
|
$ |
1,150 |
|
|
$ |
1,500 |
|
|
$ |
21 |
|
Average Variable
Interest Receive Rate(2) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2.3 |
% |
|
|
|
|
|
|
1.7 |
% |
|
|
1.9 |
% |
|
|
|
|
Average Fixed Interest
Pay Rate(2) |
|
|
|
|
|
|
|
|
|
|
|
|
|
3.8 |
% |
|
|
|
|
|
|
4.1 |
% |
|
|
4.0 |
% |
|
|
|
|
|
|
|
(1) |
|
Fair values are based on current market rates available or on rates
available for instruments with similar terms and maturities and quoted
fair values. |
|
(2) |
|
Based upon contractual interest rates for fixed-rate indebtedness or
current market rates for LIBOR plus negotiated spreads until maturity
for variable rate indebtedness. |
|
(3) |
|
As of September 30, 2009, RAI and RJR had swapped $1.5 billion of debt
using both fixed-rate to floating-rate interest rate swaps and
floating-rate to fixed-rate interest rate swaps. See note 10 to
condensed consolidated financial statements (unaudited) for additional
information. |
RAIs exposure to foreign currency transactions was not material to results of operations for
the nine months ended September 30, 2009, but may become material in future periods in relation to
activity associated with RAIs international operations. RAI currently has no hedges for its
exposure to foreign currency.
Item 4. Controls and Procedures
(a) |
|
RAIs chief executive officer and chief financial officer have concluded that RAIs
disclosure controls and procedures were effective as of the end of the period covered by this
report, based on their evaluation of these controls and procedures. |
|
(b) |
|
There have been no changes in RAIs internal controls over financial reporting that occurred
during the third quarter of 2009 that have materially affected, or are reasonably likely to
materially affect, RAIs internal controls over financial reporting. |
PART II-Other Information
Item 1. Legal Proceedings
For a discussion of the litigation and legal proceedings pending against RJR Tobacco, Conwood
or their affiliates, including RAI and RJR, or indemnitees, including B&W, see note 11 to condensed
consolidated financial statements (unaudited) and Managements Discussion and Analysis of
Financial Condition and Results of Operations Critical Accounting Policies Litigation included
in Part I, Item 2.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
RAI conducts its business through its subsidiaries and is dependent on the earnings and cash
flows of its subsidiaries to satisfy its obligations and other cash needs. For more information,
see Managements Discussion and Analysis of Financial Condition and Results of
OperationsLiquidity and Financial Condition in Part I, Item 2. RAI believes that the provisions
of its credit facility and the guarantees of the credit facility, interest rate swaps and notes
will not impair its payment of quarterly dividends.
91
The following table summarizes RAIs purchases of its common stock during the third quarter of
2009:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Number of |
|
Approximate Dollar |
|
|
|
|
|
|
|
|
|
|
Shares Purchased |
|
Value that May |
|
|
Total Number |
|
|
|
|
|
as Part of Publicly |
|
Yet Be Purchased |
|
|
of Shares |
|
Average Price |
|
Announced Plans |
|
Under the Plans |
|
|
Purchased (1) |
|
Paid Per Share |
|
or Programs |
|
or Programs |
July 1, 2009 to July 31, 2009 |
|
|
321 |
|
|
$ |
43.73 |
|
|
|
|
|
|
$ |
|
|
August 1, 2009 to August 31, 2009 |
|
|
514 |
|
|
|
45.56 |
|
|
|
|
|
|
|
|
|
September 1, 2009 to September 30, 2009 |
|
|
486 |
|
|
|
45.13 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Third Quarter Total |
|
|
1,321 |
|
|
|
44.96 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
RAI repurchases and cancels shares of its common stock
forfeited with respect to the tax liability associated with
certain option exercises and vesting of restricted stock
grants under the LTIP. |
Item 5. Other Information
Effective
January 1, 2010, RAIs Web site, www.ReynoldsAmerican.com, will be the primary source
of publicly disclosed news about RAI and its operating companies. RAI will use the Web site as its
primary means of distributing quarterly earnings and other company news. RAI encourages investors
and others to register at www.ReynoldsAmerican.com to receive alerts when news about the company
has been posted.
92
Item 6. Exhibits
(a) Exhibits
|
|
|
Exhibit |
|
|
Number |
|
Description |
10.1
|
|
Reynolds American Inc. Executive Severance Plan, as amended and
restated effective August 1, 2009 (incorporated by reference to
Exhibit 10.1 to RAIs Form 8-K dated July 21, 2009). |
|
|
|
10.2 |
|
Second Amendment to Credit Agreement, dated June 30, 2009, among
Reynolds American Inc. and the agents and lending institutions
named therein (incorporated by reference to Exhibit 10.1 to RAIs
Form 8-K dated July 8, 2009). |
|
|
|
31.1
|
|
Certification of Chief Executive Officer relating to RAIs
Quarterly Report on Form 10-Q for the quarter ended September 30,
2009. |
|
|
|
31.2
|
|
Certification of Chief Financial Officer relating to RAIs
Quarterly Report on Form 10-Q for the quarter ended September
30, 2009. |
|
|
|
32.1*
|
|
Certification of Chief Executive Officer and Chief Financial
Officer relating to RAIs Quarterly Report on Form 10-Q for the
quarter ended September 30, 2009, pursuant to Section 18 U.S.C.
§1350, adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002. |
|
|
|
101.INS*
|
|
XBRL instance document |
|
|
|
101.SCH*
|
|
XBRL taxonomy extension schema |
|
|
|
101.CAL*
|
|
XBRL taxonomy extension calculation linkbase |
|
|
|
101.DEF*
|
|
XBRL taxonomy extension definition linkbase |
|
|
|
101.LAB*
|
|
XBRL taxonomy extension label linkbase |
|
|
|
101.PRE*
|
|
XBRL taxonomy extension presentation linkbase |
|
|
|
101.REF*
|
|
XBRL taxonomy extension reference linkbase |
|
|
|
* |
|
Exhibit is being furnished and shall not be deemed filed for
purposes of Section 18 of the Securities Exchange Act of 1934, as
amended, or otherwise subjected to the liabilities of that
Section. This exhibit shall not be incorporated by reference
into any registration statement or other document pursuant to the
Securities Act of 1933, as amended, except as shall be expressly
set forth by specific reference in such a filing. |
93
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused
this report to be signed on its behalf by the undersigned thereunto duly authorized.
|
|
|
|
|
|
|
REYNOLDS AMERICAN INC.
(Registrant) |
|
|
|
|
|
|
|
Dated:
October 27, 2009
|
|
/s/ Thomas R. Adams |
|
|
|
|
|
|
|
|
|
Thomas R. Adams |
|
|
|
|
Executive Vice President and Chief Financial Officer
|
|
|
94