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Vaper-ised! Why boom in e-cigarettes is key to BAT and Reynolds’ £38bn merger as tobacco sales go up in smoke

It’s set to be the biggest transatlantic merger in years and could create the world’s largest tobacco company.

But the success of the proposed buyout by British American Tobacco of Reynolds American may hinge not on tobacco sales, but on the booming market for e-cigarettes.

On Friday, Footsie-listed BAT, which owns the Dunhill, Kent, Lucky Strike, Pall Mall and Rothmans brands, made a takeover approach for Reynolds – the maker of Camel cigarettes.

BAT already owns just over 42 per cent of Reynolds, but the deal would see BAT pay $47billion (£38billion) to take full control.

The deal, BAT says, would allow the combined company to make cost savings of $400million a year, which has left some analysts wondering whether such a colossal deal is worth it for such relatively modest gains.

However, the logic of the deal lies as much in the new market for ‘vaping’ and other non-traditional nicotine products, as it does in the traditional pack of 20 cigarettes.

Smoking is in decline across Britain, while the use of e-cigarettes is growing fast. Figures from Public Health England show a surge in vaping against a steady decline in smoking, a pattern expected to be replicated across the developed world.

While most major tobacco groups have developed e-cigarette brands, none has secured the kind of market dominance they are used to with traditional tobacco.

One adviser to the deal said so-called ‘new generation products’ were a significant reason for the bid. He said: ‘Both players are chasing the new generation market hard, putting in a lot of research and development and clearly it’s a big market opportunity.


‘At the moment it’s a pretty fragmented market, but it’s a growing one. So the two companies will be able to bring together their research and development, and sales capability, across the globe as a consequence of the merger.’

In the e-cigarette market BAT has ‘got nothing in the States’, he added, while Reynolds has got ‘nothing outside of the States’.

Reynolds was one of the pioneers in the sector in the US, first launching an e-cigarette in the mid-1990s – albeit without much success. The recent boom in vaping is now looking a surer bet.

Nigel Driffield, professor of international business at Warwick Business School, said: ‘They know their core business is declining and what they are looking to do is to find ways to diversify and protect their cash flow as best they can. Obviously cigarette-replacement products in whatever form are one of those.’

Nicholas Hyett, equity analyst at financial services firm Hargreaves Lansdown, said the deal also brought two different types of e-cigarette technologies under the same roof.

While BAT has favoured forms of vaping where liquid nicotine is heated, Reynolds has gone down a route known as ‘heat not burn’, in which tobacco itself is heated but not set on fire.

Hyett said global leader Philip Morris (the maker of Marlboro) has favoured heat not burn while Imperial Brands (the maker of Lambert & Butler and Embassy, among others) have favoured vaping.

BAT’s leading ‘next generation’ product is Vype, launched in 2013, which is by far its most popular e-cigarette, though the company does have a tobacco-heating product, the glo iFuse. Hyett said BAT had a 35 per cent share of the vaping market in the UK.

A BAT-Reynolds merger would allow both companies to push their respective e-cigarettes into new markets, which for BAT would mean getting its leading Vype brand into the lucrative US.

‘This would allow BAT to compete with Philip Morris directly,’ said Hyett.

BAT chief executive Nicandro Durante said: ‘We have been a shareholder in Reynolds since its creation in 2014 and have benefited from its growth in the US market.

‘The proposed merger of our two companies is the logical progression in our relationship and offers all shareholders a stake in a stronger, truly global tobacco and next generation products company.’

Meanwhile, Driffield said he believed the timing so soon after the Brexit vote was coincidental. He warned that while the deal, if successful, would create a global giant, it might not benefit the UK economy greatly.

He added: ‘I think both firms are trying to consolidate themselves where they still have a significant presence, cut costs because they both have overcapacity, and then look to diversify away from tobacco while the cash from that is still coming in.’

Reynolds has indicated that it is open to discussing BAT’s approach, but analysts believe the British company may yet have to raise its price.

The future prospects of e-cigarettes under a merged group may be vital to convincing the US group, if the deal is not to go up in smoke.


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