NEW YORK (Reuters) - The
enduring popularity of menthol may be a big motivator
behind Reynolds American Inc's <RAI.N> interest in
buying smaller rival Lorillard Inc <LO.N>, which has the
best-selling U.S. cigarette brand with the additive.
While potential cost savings from economies of scale in a declining
industry may be the main driver for the multi-billion-dollar deal,
Lorillard's leading U.S. menthol cigarette Newport is another key
draw.
Menthol cigarettes have roughly a 28 percent market share in the
United States, according to market research firm Euromonitor
International. Experts say the mint-flavored additive enjoys
disproportionate popularity among minorities, especially
African-Americans, and young people.
Reynolds is in talks to acquire Lorillard, which has a market
capitalization of $22.9 billion, in a deal that would reshape one of
the world's most profitable tobacco markets.
Adding Newport to its product lineup would allow Reynolds, maker of
Camel cigarettes, to broaden its reach among minority and younger
smokers.
Menthol may reduce the irritation and harshness of smoking when used
in cigarettes, according to the U.S. Food and Drug Administration.
The category is declining but at a slower rate than nonmenthol
cigarettes. According to a report by Cowen & Co., menthol sales
volumes have fallen at 2 percent annually for the last 10 years
compared to a 4 percent decline for nonmenthol cigarettes.
Still, menthols face risks as the FDA considers restrictions on the
substance, which is regulated in medical products but not in
cigarettes. The agency last year released a preliminary review that
said that a majority of African-American smokers use menthol
cigarettes. Menthols were also associated with lower socioeconomic
status, according to the FDA review of available studies.
Those studies showed that menthol in cigarettes was likely
associated with reduced success in quitting smoking, especially
among African-Americans, the review said. The agency declined to
comment Friday on the timing of any possible regulatory actions.
A separate study conducted by Stanford University School of Medicine
researchers in 2011 found that there were more ads for menthol
cigarettes at licensed tobacco retailers near high schools with a
greater proportion of African-American students.
A ban on menthol cigarettes would "eliminate concomitant advertising
that targets young people and some racial and ethnic groups," said
Lisa Henriksen, senior research analyst at the Stanford Prevention
Research Center. She added that tobacco companies have been
targeting African-Americans with advertising for menthol cigarettes
since the 1960s.
Lorillard and Reynolds did not return phone calls requesting
comment. Lorillard says on its site that the company "believes that
the best available scientific evidence does not show that menthol
cigarettes are more harmful than non-menthol cigarettes and that
Americans have a right to make a personal choice to use any legal
product."
In a response to the FDA review last year, the company disputed that
its marketing was disproportionately aimed at minorities. "For
adults who choose to smoke, Lorillard's marketing seeks to persuade
those smokers to choose a Lorillard brand," the company said.
Roughly 85 percent of Lorillard's $6.9 billion in sales last year
came from the Newport brand. The acquisition talks indicate that
both companies view the regulatory risk from FDA as lower today than
it was a year ago, said Vivien Azer, director and senior research
analyst at Cowen & Co.
"We do not expect an outright ban but would not be surprised to see
incremental regulation down the road," she added.
Still, big bets on menthol may produce limited returns in the long
run. While menthol cigarettes are outperforming nonmenthol
cigarettes, the gap has narrowed in the last three years because of
a decline in overall African-American per capita use of cigarettes,
Azer said.
Lorillard's shares closed Friday at $66.01, up 4.6 percent.
(Reporting by Anjali Athavaley; Editing by Christian Plumb and
Prudence Crowther)
