Reynolds-Lorillard Merger: In the Cards This Month?

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The highly speculated merger of tobacco giants Reynolds American Inc. (RAI) and Lorillard Inc. (LO) will, reportedly, be consummated by the end of July. Shares of both Reynolds and Lorillard spiked soon after the news of the advancement of the merger spread.

There have been rumors that Reynolds has been exploring possibilities to take over Lorillard for several months. In Mar 2014, Reynolds reportedly started to explore options to acquire its rival Lorillard. Per the reports, Reynolds — the maker of Camel brand cigarettes — hired Lazard Ltd. (LAZ), an investment bank, to look for a possible deal with the third largest U.S. cigarette company.

The report also stated that the purchase price could be more than $20 billion. However, it is unclear whether Reynolds plans to bid for the whole company or only a portion of it. The tobacco companies have reportedly been in and out of talks of a possible merger due to fear of anti-trust issues.

Investors believe that Reynolds will have to divest some of its assets to fulfill the anti-trust requirements. The possible takeover will also require the consent of the U.K.-based British American Tobacco, which owns roughly 42% stake in Reynolds because the agreement might dilute its interests.

Last week, Bloomberg reported that Imperial Tobacco Group announced plans to sell 30% of its stock in Madrid unit. This is expected to put Imperial Tobacco in a better position to takeover the assets that Reynolds and Lorillard will vend in the region.

The acquisition, if materialized, is expected to consolidate the tobacco industry and bring in growth opportunities for Reynolds. The merger will bring brands like Newport and Camel under one banner.  

Reynolds is geared to cement its position in the e-cigarette category with the nationwide distribution of its flagship e-cigarette brand Vuse, after favorable response since its launch in Colorado and Utah earlier this year. Moreover, Lorillard also has a solid presence in the profitable electronic cigarettes market with its blu eCigs (acquired in Apr 2012) and the U.K.-based SKYCIG (acquired in Oct 2013) brands.  

Reynolds and Lorillard are major U.S. tobacco sellers followed by peer Altria Group Inc. (MO), which makes Marlboro cigarettes, owning more than 40% market share in the U.S. So a combination of  Reynolds and Lorillard and their leading brands might pose a threat to Altria.

While Lorillard carries a Zacks Rank #2 (Buy), Reynolds currently carries a Zacks Rank #3 (Hold).

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