Giant Tobacco Merger Finds Itself at the Mercy of a Tiny Rival

Giving up some top brands might not be enough to keep the huge tobacco giant merger alive. Photo: Flickr via Kathy.

The Lorillard and Reynolds American megamerger has never been considered a done deal due to the antitrust concerns that will arise from its completion. The newly formed company andAltriawould control close to 90% of the domesticcigarette market, and there remains significant opposition to the union.

To alleviate some of those concerns, Lorillard and Reynolds agreed to divest themselves of a number of brands, including Kool, Salem, Maverick, Winston, and blu eCigs.Imperial Tobacco will pay $7.1 billion for this portfolio.

Three is a crowdThe deal should make Imperial Tobacco a viable, new competitor. Though the brands in the portfolio each make up just a small piece of the U.S. market, the cumulative effect would more than triple market share for Imperial to approximately 10%, making it the third largest player in the industry. Following the deal, its new U.S. business would make up about 25% of its total tobacco revenue.

That sounds good on paper, but the Federal Trade Commission is suddenly taking a closer look at the deal, trying to determine whether the U.K. tobacco company can effectively compete against its larger brethren. If the FTC decides Imperial Tobacco is not up to the task, the whole $27 billion deal could come crashing down.

Big enough to failAccording to The Wall Street Journal, the FTC seems to have some significant concerns about the Imperial piece of the merger. The market share of its U.S. brands, acquired from Commonwealth Brands in 2007, has deteriorated over time. The industry watchers at Euromonitor estimate that No. 1 Commonwealth brand, USA Gold, has lost a third of its share under its new ownership, and Imperial Tobacco itself admitted that share has slipped further since the Lorillard-Reynolds deal was announced.

Analysts are also concerned about the dwindling market share of the portfolio from the divestiture. According to theCowen Group, Winston, Kool, Salem, and Maverick have lost 30% of their market share over the past four years. Meanwhile, Marlboro, Newport, and Camel nearly doubled their share over the past decade.

And Imperial recently announced the resignation of its U.S. business chief Marty Orlowsky "due to differences with the company's management style"-- there is now concern the tobacco company may not be committed to grow the brands.

Up in a puff of smokeEqually worrisome could be blu eCigs, which remains the leading e-cigarette brand, but has seen itsposition fall from over half the marketto less than 25% at the end of 2014.

Personal vaping systems may not only stub out cigarette sales but those of standard e-cigarettes, too. Photo: Flickr via TBEC Review

Revenue from blu tumbled 28% last year as Altria and Reynolds rolled out competing products, while the rise of more advanced vaping alternatives ate away at the entire market. Add in state and local governments cracking down on e-cigarette use in public just like they have with traditional cigarettes, and there is more than enough concern to go around that blu eCigs will continue to falter.

Imperial Tobacco looked like it was poised to lead the e-cigarette market, but it may very well end up being just another pawn for which it paid a princely sum. Coupled with the risk the FTC does not conclude its stewardship of the portfolio will be effective, and Imperial Tobacco could become the basis for denying the entire merger.

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