Financial Charts and Tables
The RJR story, its rise and fall, is really built of numbers – numbers that measure the success and failure of a company’s management with many different metrics. For the layperson, the story should be told with as few numbers as possible. I have tried to do this, while still providing a meaningful tale about a great company and its managers.
Even before I sat down at a computer keyboard, it was obvious to me what the broad conclusions would be on the company “scorecard.” But I knew that my narrative would be at odds with some of the myths, shrouded by time, that still linger about RJR, especially in its age of “Camelot” in Winston-Salem. To defend my conclusions, I plowed through seventy years of detailed financial history to generate the most accurate numbers that I could. It is that database that laid the groundwork for my RJR story.
The serious student of business can purchase the entire set of 138 charts. Additionally, if you have questions about the material, you can email me at email@example.com. If you include a phone number and time permits, I will be happy to answer your question personally.
The financial charts and tables detail RJR’s operations, profitability, and history. They will give context and clarity to readers who want more detail about the tobacco industry, and RJR specifically. Sixteen sample charts are free. They highlight major events in the RJR story. The complete set of charts is available for $10.00. They are an important book supplement for the serious student of business policy, asset allocation, finance, or M&A.
I.01 RJR Tobacco Co. Profits 1913-1924
In the 11 years, 1913-1924, the three top tobacco companies’ profits grew 138%. RJR’s growth was 11 times that of its two major competitors, moving into first place in annual profits earned.
I.02 Original RJR “A” Common Stock Returns 1912-1949 *
R. J. Reynolds issued this special stock to employees in 1912. When it was retired in 1949, its annual dividend yield had been as high as 20%, and the total return to shareholders (dividend and stock appreciation) was over 20% annually for 37 years. Wachovia Bank would lend RJR employees upwards of the market value of the stock at 1% interest. Many employees became millionaires from their purchases of the “A” stock – sometimes called “reluctant millionaires” because they were always comfortable taking $1 a week from their $12 paycheck to buy stock.
II.01 Pack of Cigarettes – Price Components 1970s *
In the 1970s, cigarettes sold for 47 cents a pack. But even then, governments were “partners” of the tobacco companies. State and federal taxes took 48% of the retail price and the manufacturers received on 8.2% . Yet cigarettes remained far more profitable than any product on the retail shelf. The inventory turned 100 times a year, even up to 200 in some cases. The cigarette salesmen asked the retailer, “ Would you rather have a ‘fast’ dime or a ‘slow’ dollar?”
II.02 Tobaccoville and Whitaker Park Plants – Profitability 1982-1999
RJR Tobacco invested $500 million in a state-of-the-art cigarette plant in the early 1980s. It yielded a return on investment of 30% initially and continued at a 20% return into the new century, even with steadily declining cigarette volume. It still operates profitably today.
II.03 Tobaccoville and Whitaker Park Plants – Profitability of New Capacity 1982-1999
The new plant had 72 production units. In 1999, each provided a net profit $6.5 million annually, Each unit produced 8,000 cigarettes a minute, $35.76 per minute of operation. (Today’s machines make 10,000 or more units per minute.)
II.04 U.S. Cigarette Market Share and Unit Volume 1960-1989
Cigarette sales in the U.S. increased steadily from 1960 until the early 1980s. Then awareness of the health hazards precipitated a steady decline. But Marlboro was still a standout. It grew from a 2% share to a 26% share, with units sold increasing 12.6% annually, far outstripping any other brand.
II.05 ROI on $35 Million Whitaker Park Warehouse 1980-1988
A new inventory warehouse at RJR’s Whitaker Park plant showed the enormous profitability of investments in cigarettes at every level. Because of a change in the federal excise tax, the new warehouse allowed the payment of federal excise tax on cigarettes to be delayed for 30 days. The use of that capital for an extra 30 days saved RJR $14 million a year, yielding a return on the $35 million investment of 31%.
II.06 Comparative Performance of RJR Tobacco U.S. 1949-1962, 1963-1988 *
In the 1950s, when RJR had the three leading cigarettes in their category, RJR Tobacco returned 22.9% on equity. Even with a decline in profitability the return on equity for the full 40 years was 19.1%. The market value of the company grew to $9.1 billion by the end of 1987. That value would nearly triple in the following year with the leveraged buyout by KKR.
II.07 Rate of Return (DCF) – RJR Tobacco U.S. without Overhead 1949-1988
The return on equity of the U.S. tobacco company (with minimal overhead) over a 40 year period was 19.1%. An investment of $$.9 billion returned $20.5 billion in free cash flow, a performance equaled by few companies in America.
II.08 Rate of Return (DCF) and Rate of Growth – RJR Archer 1956-1966
Archer’s aluminum packaging was RJR Tobacco’s first diversification. It served the packaging needs of the parent company and used economies of scale to develop profitable outside business. Some customers were cigarette competitors. By 1966, it was recognized as a “stand-alone” company with a strong management team.
II.09 Filmco Acquisition – 2/10/1967
Moving further into packaging, RJR acquired Filmco, a maker of plastic films. It was folded into Archer in a few years.
II.10 Rate of Return (DCF) – Archer 1949-1985
Archer enjoyed a number of cost advantages, being literally next door to its biggest customer, the cigarette manufacturer. This, along with technical expertise, permitted Archer to earn a return on equity of 27%, well above the average company in a very competitive industry. In 1985, as part of a total reorganization, post Nabisco, Archer again became part of RJR Tobacco. Internal financial studies showed that it still had untapped potential with some of its innovative packaging, but those advantages went unused.
II.11 Haus Neuerberg Acquisition – 3/31/1960
RJR made its first investment in international tobacco, purchasing 51% of a German cigarette company for $10.6 million. It was a harbinger of things to come in the international world for RJR. Because of unexpected costs and unrealized “rationalizations,” the next year RJR wrote down its investment by 70%. Eventually, RJR corrected the problems in Germany, but it was not a good start abroad.
II.12 Macdonald Tobacco Acquisition – 2/15/1974
RJR made a larger Tobacco International (TI) investment, paying $75 million for Macdonald Tobacco in Canada. This marked a serious commitment of RJR to the international cigarette market. At the time of the LBO,
II.13 R.J. Reynolds Tobacco International – Foreign Investments 1955-1988
RJR slowly committed TI to operating in more international markets. By 1988, at the time of the LBO, TI had invested in 31 countries with manufacturing facilities in 12 of them. However, even with this commitment, TI found itself far behind Philip Morris in the international arena.
II.14 Rate of Return (DCF) – RJR Tobacco International 1960-1988
The investment in international tobacco proved to be very profitable. For the 29 years, 1960-1988, TI had a 22.6% return on equity. Given the profitability, it is somewhat surprising that RJR did not invest more in tobacco and less in foods. The constant threat that cigarettes might be outlawed probably dampened management’s enthusiasm for more cigarette investments. The stock market generally undervalued TI. At the time of the LBO, potential buyers believed it to be worth about $1.5 billion. However, an internal RJR study showed it to be worth $5 billion in the hands of a company such as Philip Morris or British American that could realize great cost savings in a combined company.
II.15 Pacific Hawaiian Acquisition – 2/16/1991
RJR acquired its first significant food company, Pacific Hawaiian. It was well known for its line of tropical fruit drinks and was a national brand. In what would be a continuing pattern in acquisitions, the price for the acquisition was steep.
II.16 Penick & Ford Acquisition – 5/20/1965
RJR bought Penick & Ford, a maker of industrial starches and a line of grocery items. The acquisition created anti-trust problems because of its industrial products that RJR might too closely control.
II.17 I. J. Filler Acquisition – 7/26/1966
RJR added a line of potato chips and other snack items with the purchase of I.J. Filler in Atlanta. The products were sold regionally, and RJR apparently hoped to use its broad marketing expertise to take the brands national. This is always a big challenge for any company, and RJR was no more successful than others in the effort. The price was a relatively modest 12.5 times earnings, but given the challenges of the product line, it was no real bargain.
II.18 Chun King Acquisition – 11/28/1966
RJR bought Chun King, the Chinese food company for $63 million. Its founder, Jeno Paulucci, for a short while, was Chairman of RJR Foods. But he soon returned to Duluth, MN where he founded another successful food company, later sold to Pillsbury.
II.19 Coronation Acquisition – 6/29/1967
RJR bought Coronation Foods in Canada, a small company that could offer added distribution for RJR Foods in Canada.
II.20 Patio Foods Acquisition – 7/20/1967
RJR acquired Patio Foods in San Antonio, TX, a regional producer of Mexican foods, mostly frozen dinners. This company, like a number of the small food acquisitions, was bought with RJR stock. The stock became far more valuable than the business that paid for, a bad deal for shareholders.
II.21 Sale of P&F Corn Starch to VWR United – 5/31/1971
The U.S. court ruled that RJR must divest itself of the corn starch business because of anti-trust concerns. RJR sold this industrial operation to VWR United, generating a $29 million capital loss. This loss led to a number of potential acquisitions that might provide a capital gain to offset the loss. None was ever closed, and the loss was finally used to offset the gain of a Sea-Land asset sale.
II.22 Del Monte Acquisition – 2/1/1979
RJR management bought Del Monte, the iconic fruit and vegetable company headquartered in San Francisco, despite a warning by internal financial staff and outside investment bankers that this was a low margin, commodity industry. Unfortunately, their judgments were accurate.
II.23 Nabisco Acquisition 7/2/1985 *
Management expected RJR’s purchase of giant Nabisco to be its crowning achievement at diversification, a $5.3 billion investment. Instead, the combination proved to be the poster child for a clash of corporate cultures that led, in only three years, to the destruction of three major businesses.
II.24 KFC Sale – 10/1/1986
KFC, the world-famous fried chicken chain in Louisville, KY was part of the Heublein acquisition. It did not fit well with the other RJR businesses and Ty Wilson decided to sell it. His opportunity reportedly came from a chance conversation with Pepsico CEO, Wayne Calloway. Calloway, a Winston-Salem native, was on the board of Wake Forest University along with Wilson. At a board meeting, Wilson inquired whether Calloway had an interest in adding this food chain to similar Pepsico businesses.
II.25 Rate of Return (DCF) KFC 1982-1986
RJR owned KFC for only four years, and specific performance numbers are difficult to separate from other Heublein operations. The best estimate indicates that the business was not very profitable for RJR. Hence the desire to sell to a company where it might have some synergies.
II.26 Rate of Return (DCF) RJR Foods 1963-1988
RJR Foods never achieved RJR management’s hoped-for results. As the acquisitions grew larger, especially with Nabisco, profitability improved. But a 26 year effort to build a successful food company fell far short. The return on equity to shareholders was modest, even with better results in the later years.
II.27 Rate of Return (DCF) RJR Foods 1963-1978
The early years of food acquisitions and operations were dismal. Improvement came only with later acquisitions that provided economies of scale and national brands. To compound the poor results, some of the early food acquisitions were made with RJR common stock. In the long run, the dilution from these shares did far more damage to the RJR shareholders than did the poor operating performance of the acquired companies.
II.28 Sea-Land Acquisition – 5/13/1969 *
Of the 15 significant RJR acquisitions, Sea-Land was far and away the strangest. The initial outlay was $1 billion for a business totally alien to anything the tobacco people had ever seen – capital intensive, financially leveraged, international, unionized, and complex. The motivation for the acquisition was always a mystery.
II.29 RJR Dilution from Sea-Land Acquisition 1969
75% of the Sea-Land purchase was made with a special preferred stock that could be converted into RJR common stock. These shares eventually became 24% of the ownership of RJR. It was mind-boggling that one man, Sea-Land founder Malcolm McLean, became the owner of 10.4% of RJR Reynolds Tobacco Company. He had successfully negotiated the exchange of a shipping company with capital and growth challenges for a major stake in one of the world’s most profitable companies. This was but one example of his masterful salesmanship and negotiating ability.
II.30 Sea-Land Acquisition Original Proposals 1969
The RJR annual report showed two other proposals to buy Sea-Land. Neither was as lucrative for the Sea-Land owners, and McLean evidently convinced RJR management to make an offer that was more profitable to Sea-Land.
II.31 Sea-Land Spin-Off 6/19/1984
Ty Wilson realized that it was past time for RJR to deliver on its long-stated objective to be a worldwide consumer goods company. To achieve that goal, a major step was to divest Sea-Land, done with a spin-off of Sea-Land shares to RJR stockholders. Sea-Land stock sold in the market at 47% of book equity, indicating the lack of faith that investors had in the earning power of the shipping assets.
II.32 Rate of Return (DCF) Sea-Land 1969-1984
Sea-Land operated as part of RJR for 15 years. Given the price paid and the additional investment, the total outlay for Sea-Land was $3.2 billion. This was an undiscounted loss of $257 million and a return on equity of (13.9%), surely one of the worst-performing acquisitions ever.
II.33 Rate of Return (DCF) Sea-Land (Including Payments from RJR Stock) 1969-1988
The Sea-Land deal looks even worse if the cost of the dilutive RJR stock is included. This reduces the return on equity to (19.4%) at the time of the LBO.
II.34 Sea-Land Net Cash Flow to and from RJR Shareholders 1969-1988 *
Sea-Land investment delivered a significant loss over the 15 years before it was spun off. The size of this loss is best shown as the dollars the original RJR shareholders got compared to the dollars the selling Sea-Land shareholders got. RJR bought Sea-Land with a combination of cash and stock. The cash component was $442 million and invested another $2.2 billion over the years in operating assets. The RJR shareholders netted $213 million on their cash investment. However, the stock component of the transaction resulted in the Sea-Land shareholders getting 27% of RJR Tobacco Company. Over 15 years the RJR stock paid them $7.9 billion in dividends and stock growth, 37 times as much as the pre-acquisition RJR shareholders received.
II.35 Aminoil Acquisition 9/1/1970
RJR bought the small oil producer in Kuwait. For totally unexpected reasons, it was a bargain and encouraged RJR to move much heavier into the energy industry.
II.36 Rate of Return (DCF) Aminoil International 1970-1982
Aminoil gave an outstanding return on equity. The high return was the result of a $134 million payment by the Kuwaiti government for their taking the oil properties.
II.37 Burmah Oil Acquisition/ Aminoil USA 6/30/1976
After a prolonged negotiation, RJR realized that it had no competitive bidders for the Burmah Oil properties. The seller’s only other option was to dispose of the properties piecemeal. The price was $522 million, the largest cash acquisition ever made at the point. It put RJR firmly in the energy business.
II.38 Burmah Acquisition – Allocation of Purchase Price
The outside tax attorney’s allocation of the purchase price across two separate legal entities provided tax advantages that resulted in $30 million of value to RJR.
II.39 Aminoil USA Sale to Phillips Petroleum 10/26/1984
Philips Petroleum bought Aminoil USA for $1.7 billion, more than three times the price RJR paid for it 8 years earlier. The sale moved RJR back toward its basic strategy of consumer goods.
II.40 Rate of Return (DCF) Aminoil USA 1976-1984
The oil investment had a return on equity of 14.5%, making it a respectable investment. However, strategically it was not really a fit for the consumer goods company.
II.41 Rates of Return (DCF) Aminoil USA 1976-1979 1980-1984
RJR’s returns on this investment over two-time segments illustrate the risks in valuing a commodity business. As the price of oil rose, RJR could have sold Aminoil USA for about $3 billion only four years after buying it, for an annual return on equity of 69%. Holding the asset another four years yielded a return of (11%) for those years as the price of oil declined. The combined return was respectable but would have been disastrous if Ty Wilson had not sold when he did since oil prices continued to decline for several years.
II.42 Heublein Acquisition 7/29/1982
After prior failed negotiations to enter the alcoholic beverage business, RJR bought Heublein, which owned Smirnoff Vodka, fine wines, and a line of upscale grocery products. It also had Kentucky Fried Chicken which was less of a fit for RJR. The Heublein shareholders received what later be a “windfall” because they received RJR shares as part of the purchase price and those shares increased 300% over the next six years.
II.43 Heublein Wines Sold to Grand Metropolitan 3/6/1987
Ross Johnson surprisingly sold Heublein’s spirits and wines to Grand Metropolitan. He bought Almaden Vineyards for $125 million, combined it with Heublein’s beverages and sold the entire package a few days later. This was typical of Ross’s “wheeling and dealing” on a multi-million dollar scale. He made the point that the beverage business with Almaden was much more saleable that was Heublein’s brands alone.
II.44 Rate of Return (DCF) Heublein Spirits & Wines 1982-1987
Heublein spirits was sold after only five years with the RJR family. It seemed like a good fit but may have been part of a Ross Johnson strategy to raise cash for a buyout. Ross was definitely raising cash, but no one was ever sure of his motive.
II.45 Rate of Return (DCF) Heublein Corp 1982-1987
Heublein overall was not a good investment. It looked even less attractive in retrospect, given the RJR that changed hands in its purchase, diluting the stock.
II.46 Rate of Return (DCF) Specialty Grocery Foods 1982-1987
The specialty grocery products, with such famous names as Grey Poupon and A1 Sauce, did give a respectable return.
II.47 Purchase of Heublein and Sale of its Components 1982-1988
The three major components of Heublein sold for less than their total purchase price on an after-tax basis.
II.48 Rate of Return (DCF) RJR Development Corp. 1980-1984
The Development Corp. was a group of small, almost venture capital businesses, with the exception of Archer which was the original piece of this new company and served as its flagship enterprise. Figures were not available, but anecdotally Archer was reported to be the only profitable component. The business was disbanded before it had an opportunity to prove its worth.
II.49 R.J. Reynolds Acquisitions and Divestitures 1960-1987
RJR’s acquisitions required an outlay of $9.7 billion over 26 years. A revealing measure of the high price paid is the weighted price/earnings ratio compared to the weighted comparable ratio for RJR stock at the time of each purchase – 15.4 for the acquisitions and 6.9 for RJR stock. RJR management was valuing the acquisitions at 2.2 times the value of their own company, despite the tobacco business’s tremendous earning power.
II.50 RJR Key Events Timeline 1949-1989
Over 41 years, RJR was a classic study of a business trying to find its proper direction. It invested in 8 major industries outside its domestic tobacco business. It had 8 CEO’s and first transformed from a U.S. tobacco company to a worldwide conglomerate and finally to a highly leveraged corporation with three distinct businesses that were cash-starved for a decade. A path that no one could have foreseen at the beginning.
II.51 Performance Summary By Operating Unit
The operating business units, excluding corporate overhead, gave returns ranging from (13.7%) to 27.4% The acquisitions totaled only 6.7%. Domestic tobacco had a stellar 19.1%, and not surprisingly, it generated 76% of the cash return – $15.6 billion of a total $20.5 billion.
II.52 RJR Diversification Timeline – Acquisitions By Business By Year 1949-1988
Billions of dollars flowed into and out of RJR for acquisitions and from divestitures. In 1988, before the buyout, the three remaining businesses were worth $17.5 billion in market value.
II.53 Rate of Return (DCF) Total RJR Businesses Without Overhead 1949-1988
Total RJR businesses (excluding corporate overhead) had a composite return on equity of 16.6%.
II.54 Rate of Return (DCF) RJR Tobacco Domestic Without Overhead 1949-1988
Domestic tobacco dwarfed all the other operations, generating $20.5 billion of wealth for its owners on an investment of $4.9 billion.
II.55 Rate of Return (DCF) Acquisitions Total Portfolio Without Overhead 1949-1988
The acquisitions required a purchase price plus a later investment of $19 billion and returned $24 billion. However, this was before adjusting for the corporate overhead that went along with managing a worldwide empire – travel, facilities, staff, and the usual bureaucracy that accompanies complexity and size.
II.56 Impact of Acquisitions on Cash Flow and Stock Value 1988
Taken as “stand-alone” operations, the three RJR businesses had an estimated value that totaled $76 a share.
But the uncertainty of owning an unpredictable conglomerate knocked off an estimated $2.9 billion of market value, and the negative tobacco image cost another $3.2 billion in market value, putting the stock at $50 a share, a 34% discount for uncertainty about RJR’s future.
II.57 Rate of Return (DCF) RJR Tobacco and Acquisitions 1949-1988
As RJR diversified, overhead grew from 1% to 5% of earnings from operations. The dollars spent were even more shocking, reaching $77 million in 1986, and then with the corporate move to Atlanta in 1987 and the leveraged buyout in 1988, the overhead spiked to $257 and $216 million. Growth in non-productive corporate assets ballooned to over $1.5 billion in 1987, before being pared by the new owners after the leveraged buyout.
II.58 Return to Owners of Acquired Companies vs. Return of the Business Purchased
The acquired company owners who sold to RJR for stock fared far better than the stockholders who bought their business. RJR realized a return on equity on those businesses of (3.8%) while the dilutive RJR stock that was traded away for the acquisitions gave a return to the sellers of 21.3%. In short, few investments were more profitable than selling a company to RJR for its stock.
II.59 Real ROE $ – Adjusted for Inflation 1949-1988
Inflation steadily erodes the purchasing power of money, and it is difficult to look at dollars forty years ago in current terms. Over 39 years RJR investments returned 14.9%, but only 10.1% (real return) when adjusted for inflation. The tobacco investment made a 15.0% real return and the acquisitions had a (9.4%) real return. All the money invested in acquisitions returned dollars that would buy 9.4% less than when it was invested. RJR would have done better to tuck the greenbacks under a mattress.
II.60 Rate of Return (DCF) RJR Common Stock 1949-1988
RJR common stock returned 13.7% annually to shareholders if they withdrew their dividends. With all dividends reinvested, the return dropped to 11.8%, the result of low growth for the stock after dividends were reinvested.
II.61 Half of Tobacco Operating Earnings
Dave Peoples, RJR’s CFO, once said he would rather have half the tobacco company than all the acquisitions RJR would ever make. He was right. From 1963 until the buyout, just half of the tobacco companies and Archer (tobacco-related) produced 29% more profits than all the other businesses combined.
II.62 RJR Market Value with Stock Price at $50 per Share
RJR’s operating business had a market value as stand-alone companies, based on their earning power, of $76 a share, but each carried a market punishing discount because of corporate overhead and the analysts’ perceived fear that they couldn’t trust RJR management when it came to new acquisitions.
II.63 RJR Business Unit Contributions Undiscounted Cash Flows Total 1949-1988
Over a 40 year period, domestic tobacco provided 76% of the operating cash flow. Corporate headquarters and activities needed $780 million for assets and used $612 million of cash flow. This created a penalty for the stock price that may have been as much as $7.4 billion.
II.64 Rate of Return (DCF) Total RJR Businesses With Overhead 1949-1988
The total RJR business operations generated a return on equity of 15.2%.
II.65 Rate of Return (DCF) RJR Tobacco Domestic With Overhead 1949-1988 *
In the 40 years leading up to the leveraged buyout, RJR’s domestic tobacco business made 18.9% return on equity. This was a stark contrast to the results of the diversification program.
II.66 Rate of Return (DCF) Total Acquisitions With Overhead 1949-1988 *
With overhead considered, the acquisition program had a return on equity of (5.8%)
II.67 Corporate Headquarters Overhead 1949-1988
Corporate overhead – facilities, people, travel, communications, meetings – cost RJR about $600 million, accelerating in the three years before the leveraged buyout. The lavish spending may have penalized the stock as much as $2.8 billion. Shortly before his proposed buyout, Ross Johnson declared that he had done everything he could to get the stock price up, and it would not respond. Part of that lack of response can probably be laid to his spendthrift reputation.
II.68 RJR Growth of Corporate Overhead *
Corporate overhead chipped away at RJR earnings and return on equity. The major portion of overhead had to be attributed to the acquisitions, reducing their return on equity from 6.7% to (3.1%), a net loss for a program that spanned several decades.
II.69 MASTER FILE RJR 1949-1988
This file is the database for all the information and analysis for 40 years of RJR. It contains (by year) a profit statement, balance sheet, cash flow, stock information, and key operating and financial ratios for the company. It also (to the extent that analysis was possible from published reports) shows the same information for each of the operating businesses during this period.
III.01 RJR as a Buyout Target Tylee Wilson on RJR Plane to San Francisco 1980
In a conversation with Ty Wilson, he and I discussed the danger of our stock being so undervalued. It was selling at a discount to reasonable value of 55-60%. While I was on a trip, friends at Pimco, the bond investment advisor in Newport Beach, CA told me that Warren Buffett had spoken there, and he said that RJR was the biggest bargain in the market. (Buffett was little known outside the investment world – not yet the “rock star” of Berkshire Hathaway.) I returned to Winston-Salem and asked my boss if he knew who Warren Buffett was. He replied, “Not until this week. He just bought 5% of our company. Our management suddenly developed lots of reasons to visit Omaha.
III.02 RJR Nabisco Brands 1985
With the Nabisco acquisition, RJR management was justifiably proud of its array of consumer products. A list of the mostly familiar names, nearly all leaders in their category, approached 500. To emphasize the point, at a security analyst meeting, Nancy Holder, the executive in charge of such events, collected a sample of each of these products. She placed them in a line of supermarket carts and paraded them by the analysts.
III.03 Bid for RJR – Ross Johnson Team Plan $75 per Share 1988
Ross Johnson’s surprise bid to his board for RJR was $75 a share, a 50% premium over the recent price. However, this offer, an all-time high for the stock, would have afforded the opportunity to sell off everything except the domestic tobacco company and still retain a cash cushion of $2.5 billion. This tobacco company would have generated cash to a group of private owners of over $1 billion a year. The board felt Johnson had overreached and put them in a difficult position.
III.04 Bid for RJR – Ross Johnson Team Plan $92 per Share 1988
Other Wall Street firms saw RJR as a juicy plum that they would not let Ross Johnson to “steal” at a bargain price. So the bidding began. Ross raised his bid to $92 a share, but even this higher price would permit a new owner to capture the tobacco company with a relatively small level of debt.
III.05 KKR Purchase Price for RJR Nabisco $109 per Share – Financing Challenge 1988
KKR won the bidding, buying RJR Nabisco for $109 a share, but this nose-bleed price dictated that they would need to raise the unheard-of sum of $23 billion – a formidable challenge.
IV.01 KKR Long Term Financing Plan 1989
KKR’s financing plan was kept internal, but a reasonable plan would have been selling some businesses for billions of dollars and ramping up the debt from $4.6 billion to $9.1 billion. Of course, the unknown factor was how fast they could sell businesses. If those sales took too long, borrowing costs would overwhelm them.
IV.02 KKR Asset Sales 1989-1990
Short term debt to finance the deal dictated that KKR sell $5 billion of assets in the first year. This presented a challenge the new CEO, Lou Gerstner, but his team was able to meet the deadline.
IV.03 KKR Asset Sales and Buyers 1989-1990
Most of the $5.6 billion in immediate asset sales were pieces of international businesses that fit well for the buyers as “bolt-on” pieces outside the U.S.
IV.04 RJR Nabisco Debt 12/31/1989 *
KKR’s financing burden was $21.9 billion, so large that it took dozens of banks and investment firms to secure the cash. And, onerous for the new owner, the average interest rate was $13.3%. Even more of a threat, $11.9 billion was Pay-In-Kind (PIK) at 16.% interest. PIKs required no immediate cash interest payment, but the debt would compound at 16% a year until it was paid. Because of an oversight by KKR in negotiating its terms, the PICs almost forced RJR Nabisco to raise that interest rate to 25%, which would have forced bankruptcy.
IV.05 KKR Purchase Price Allocation 2/8/1989
KKR, for book purposes, wrote up the various assets that they bought to reflect the purchase price. This is an estimate of that allocation, although some of the purchase price was booked as goodwill.
IV.06 RJR Nabisco Reduction in Capital Expenditures Pre & Post Buyout 1984-1990
Despite management comments in the annual reports that RJR Nabisco had plenty of capital to reinvest in its operating businesses, the investment decline was severe following the buyout. Operating and capital expenditure budgets were tightened, and all available cash went to the parent to pay the debt.
IV.07 KKR Fund ROI of Operating Companies and Stocks 1980-2000
After the leveraged buyout, the three businesses and various stocks that owned (pieces of) them had very different investment returns. Most notably, the limited partners in the KKR group lost money. In contrast, the KKR management group made extraordinary returns. It is always good to be the buyer who controls the purse strings.
IV.08 RJR Tobacco International Foreign Investments 1989-1998
In the decade following the leveraged buyout, Tobacco International expanded into a number of markets, although their commitment was modest, given the parent company’s need for cash.
IV.09 RJR Nabisco Cumulative Results Based on KKR’s Allocation of Purchase 1989-2000
The three operating companies contributed $22 billion of free cash flow and were sold or taken public (RJR Tobacco) for $34 billion. Overall, RJR Nabisco had a return on equity of 11.7%, well below the returns before the buyout.
IV.10 Sources of Cash to Service KKR LBO Debt 1989-2000 *
The leveraged buyout saddled RJR Nabisco with almost $20 billion in debt immediately. The interest alone ran over $10 million a day. To reduce this debt to a manageable number, KKR sold or spun off operating assets for $28.7 billion in cash. But because of the high-interest rates, during the 10 years following the buyout, the debt service required $21.5 billion of cash generated by 3 operating companies, leaving little money for growth. Even this $50 billion was not enough to retire the debt; several billion dollars of debt had to be converted to stock. , reducing the original KKR ownership of RJR Nabisco to 18%.
IV.11 RJR and KKR Restructuring and Financing Costs 1987-1999
When companies are sold and dismembered, “financial engineering” does not come cheaply. RJR moved from Winston-Salem to Atlanta in 1987, then moved again to New York in 1989. Personnel terminations triggered cash buyouts for years as RJR “restructured” and downsized. All this required an outlay of over $5 billion. One could ask, “To what end was all this moving around and restructuring? Did the businesses really become more productive?” It is questionable.
IV.12 RJR Nabisco Selected Key Operating Data 1988-2000
In the Dark Age, the three operating companies were struggling, and growth was stagnant, and performance was mediocre at best. Nabisco made progress with its sales and earnings, but not enough to offset the declines in both tobacco businesses.
IV.13 MASTER FILE RJR NABISCO 1989-2000
This file is the database for all the information and analysis for 12 years that were the “Dark Age” for the RJR empire. It contains (by year) a profit statement, balance sheet, cash flow, stock information, and key operating and financial ratios for RJR Nabisco in total. It also (to the extent that analysis was possible from published reports) shows the same information for each of the operating businesses during this period.
IV.14 Returns for KKR General Partner and Limited Partners 1989-2006 *
KKR’s reputation suffered because of the poor results from this largest-ever (at the time) leverage buyout. KKR was a private entity, and it made few figures public. Over 7 years, KKR disposed of pieces of the business and swapped its last piece of ownership for the Borden company. The Borden venture was not a real success, and the KKR limited partner investors are believed to have lost about $530 million on the RJR/Borden deals, a return of (1.6%) annualized. In contrast, the KKR parent group made only a $126 million investment and reaped $470 million in fees for an annualized return of over 700% on a tiny investment. To KKR’s credit, their investment partnership was simultaneously very successful in investing in Duracell. RJR and Duracell combined yielded a respectable result for KKR’s limited investors.
V.01 Rate of Return (DCF) RJR Nabisco Operations 1989-2000 *
Operating for a decade with capital constraints, the three businesses – domestic tobacco, international tobacco, and Nabisco foods managed a return on equity of 7.3% annually. Certainly disappointing for the owners, but management had to deal with declining cigarette volume in the flagship business.
V.02 RJR Tobacco Selected Key Operating Data 1988-1999
Domestic tobacco suffered in the Dark Age following the buyout. Revenue declined 7% in 10 years as Philip Morris pressed hard with its advantage when RJR was too weak financially to counter the price cuts and the heavy marketing of Marlboro. Earnings dropped 26%.
V.03 Rate of Return (DCF) RJR Tobacco 1989-1999
The return on equity for domestic tobacco was 12.5%, far below its historical returns, pre-LBO. Free cash flow declined steadily, to less than half of what it had been when the buyout took place.
V.04 Performance of RJR Tobacco Only (Estimated) vs. Actual RJR Stock 1949-1987 1849-1988
What a difference a year makes. The tobacco business had delivered excellent operating results for decades, but in 1987, it was punished in the market as investors would pay only an estimated 11.5 times earnings for tobacco. The stock was selling at about half what might have been expected if it had delivered such a result in any other industry. Then in only 1 year, shareholders finally got rewarded as the buyout raised its price nearly 2.5 times what it had been only a year or so earlier.
V.05 Spin-Off of RJR Tobacco 6/15/1999
As part of CEO Steve Goldstone’s grand plan to bring the RJR Nabisco era to an end, he took Reynolds Tobacco public in a spinoff from RJR Nabisco.
V.06 Santa Fe Acquisition 1/16/2002
Less than three years after becoming independent and publicly traded, RJR Tobacco launched a tobacco merger strategy. Its first buy was Santa Fe, a tobacco company acquired for $354 million.
V.07 Brown & Williamson Merger 7/30/2004
Recognizing that the U.S. tobacco companies needed economies of scale in order to compete with Philip Morris and its Marlboro “Cowboy,” RJR merged with Brown & Williamson, a tobacco company in Louisville, KY. This $6.7 billion acquisition provided the size to begin competing with Philip Morris. The merger also gave British American Tobacco in London, B & W’s parent, a 42% stake in the venture with the right to buy more ownership in the future. The merged company took the name Reynolds American (RAI).
V.08 Conwood Acquisition 5/31/2006
RAI acquired Conwood, a maker of chewing and snuff tobaccos to add another segment of tobacco. RJR had tried to make its own snuff but had never been able to duplicate the taste of Conwood’s popular product. Later Conwood was renamed American Snuff.
V.09 Niconovum Acquisition 12/9/2009
RAI bought Noconovum, a Swedish pharmaceutical company for $44 million. Its line of products was an innovative replacement therapy for cigarettes and intended for those who wanted to quit smoking by delivering nicotine with another system.
V.10 Lorillard Merger 6/12/2015
RAI acquired Lorillard, another cigarette company in nearby Greensboro for $26 billion, a major merger. Part of Lorillard was sold for $7.1 billion before the merger was consummated. British American bought $4.7 billion of the new combined company’s stock in order to maintain a 42% ownership in the business.
V.11 Sale of RAI to British American Tobacco 7/26/2017
RJR and its successors came to an end as a stand-alone company. British American exercised their right to acquire the portion of RAI that it did not own. The company had a value of $94 billion at purchase.
V.12 Reynolds American (RAI) Key Operating Data 1999-2017
In the 18 years of its renaissance, after becoming public, the combination of mergers and economies of scale paid off the RAI. While it did not have tremendous organic growth, the company more than doubled its revenue and, more important, EBITDA (earnings before interest, taxes, and depreciation) operating earnings increased almost five-fold. At the end, America had only two real participants in the cigarette business – Reynolds American (now part of British American Tobacco) and Philip Morris.
V.13 Reynolds American and Philip Morris Performance 1999-2016
During its renaissance, RAI outperformed Philip Morris in growing sales, operating earnings, unit volume, and market share. But Philip Morris had such a commanding lead entering this period that it was still almost twice the size of RA at the end. And no brand came close to unseating Marlboro from its number one spot.
V.14 Rate of Return (DCF) RJR/RAI Tobacco 1999-2017 *
In 1999-2000, CEO Steve Goldstone achieved what many thought would be impossible – he separated the businesses using an IPO of RJR Tobacco and selling Tobacco International and Nabisco. With access to capital again, RJR grew through a series of strategic tobacco mergers and the business returned 21.3% on equity for 17 years, and in the end, merging into British American Tobacco of London.
V.15 MASTER FILE RJR/RAI 1999-2017
This file is the database for all the information and analysis for 18 years that were the “Renaissance” for RJR Tobacco. It contains (by year) a profit statement, balance sheet, cash flow, stock information, and key operating and financial ratios.
V.16 RJR Tobacco International Key Performance Data 1988-1999
Tobacco expanded its operations into new geographic areas, but the investment yielded very little in the way of performance. EBITDA (earnings before interest, taxes, and depreciation) grew 5% a year, but sales and the return on operating assets declined.
V.17 Rate of Return (DCF) RJR Tobacco International 1989-1999
The return on equity in the “Dark Age” was respectable, but there was little net earnings growth. TI was unable to leverage its entry in new markets into meaningful increased profitability. Finally, Japan Tobacco bought the international operations of RJR.
V.18 Sale of Tobacco International to Japan Tobacco 5/12/1999
RJR Nabisco negotiated a sale to Japan Tobacco (JT) after an intense and complex auction that involved several suitors, but mainly JT and Philip Morris. Most analysts considered the price much too high at 59 times earnings.
V.19 Comparison of Tobacco International Value 1988-1999
The purchase price for TI was very close to the internal value calculated by RJR Nabisco staff in 1989. This confirmed the accuracy of that internal study showing that, in the hands of an experienced international tobacco company, the asset had been worth $5 billion, rather than the lower $1,.5 billion that was generally accepted. The TI purchase would be a real bargain for Japan Tobacco.
V.20 Gallaher Acquisition 4/18/2007
Japan Tobacco recognized that there would be real synergies in combining JTI and Gallaher, the British tobacco company.
V.21 American Spirit Acquisition (Outside the U.S.) 1/31/2016
JTI bought from Reynolds American the rights to market American Spirit products outside the U.S.
V.22 Japan Tobacco International Key Operating Data 1999-2016
Japan Tobacco International (JTI) delivered 17 years of outstanding performance, rewarding its parent company handsomely for its purchase. Operating success is best shown by EBITDA (earnings before interest, taxes, and depreciation) in constant dollars and ROTNOA (return on tangible net operating assets). These measures adjust for currency valuation changes and non-cash charges that lower the value of assets. The EBITDA grew 14.8% annually, ROTNOA increased from 3.4% to 31.6%.
V.23 Financial Data for Philip Morris International and JTI 1988-2017
After 11 years of poor results, JTI, in its renaissance, put growth numbers on the board that far exceeded those of Philip Morris International (PMI). However, PMI had such a head-start in the international arena, that in 2017, JTI was still only half the size of PMI.
V.24 Rate of Return (DCF) Japan Tobacco International 1999-2016 *
Japan Tobacco bought RJR Tobacco International for $8 billion, a price that almost everyone deemed too high. But in the next 17 years, the Japanese’s foresight was proven – their new company grew EBITDA (earnings before interest, taxes, and depreciation) almost nine-fold to $3.7 billion. It provided a return on equity of 13.3% annually, reflecting the combined good management of Japan Tobacco and their acquired international business.
V.25 Rate of Return (DCF) Tobacco International 1960-2016
The return on equity for the international tobacco operations was less than it should have been, pulled down during its first 40 years by the owners’ lack of commitment to overseas markets.
V.26 Tobacco Domestic and Int’l Profitability Dark Age and Renaissance 1988-2016
Earnings for both tobacco companies declined during the Dark Age and then rebounded well beyond what most analysts expected once they again had access to capital and were run by people who understood the tobacco business.
V.27 MASTER FILE JAPAN TOBACCO INT’L 1999-2017
This file is the database for all the information and analysis for 19 years that were the “Renaissance” at Japan Tobacco International (JTI). It contains (by year) a profit statement, balance sheet, cash flow, and key operating and financial ratios.
V.28 Nabisco Key Performance Data 1988-2000
Although Nabisco received more financial support than the tobacco businesses, its profits did not enjoy much growth until its last two years of the Dark Age when new management made improvements. Philip Morris did see opportunity in combining Nabisco with its Kraft Foods and paid a rich 29.5 times net earnings for it.
V.29 Rate of Return (DCF) Nabisco 1989-2000
Nabisco showed little performance or promise in the Dark Age. Still, Philip Morris’s purchase for $18 billion provided a terminal value for the food company that gave a respectable return on equity over that 11 years. RJR Nabisco was fortunate indeed that Philip Morris was willing to “pay up” for synergies it planned to reap from the Kraft-Nabisco merger.
V.30 Sale of Nabisco to Philip Morris 6/26/2000
Philip Morris paid $18.9 billion, of which RJR Nabisco the parent got $12 billion. In a twist to this sale, Philip Morris could have saved over a billion dollars if it had been willing to buy Nabisco within a corporate structure with some possible tobacco liability.
V.31 Rate of Return (DCF) Nabisco Stock 1994-2000
In contrast to the company performance, the stock of Nabisco delivered a surprisingly good return, mostly thanks to the high price that Philip Morris paid for it.
V.32 Timeline – Tracking Stock Activity RJR Nabisco and Successors 3/1/1989-6/26/2005
To meet its debt obligations KKR sold off parts of the acquired businesses with public offerings of shares in the parent RJR Nabisco (RN) and swapping foods company Nabisco Brands (NB) for shares in the Borden company. In 1995 KKR had completely removed itself from its RJR Nabisco acquisition. After KKR’s departure from ownership, RJR Nabisco management spun off shares in RJR Tobacco (RJR).
V.33 Rate of Return (DCF) RJR Nabisco Stock 1991-2000
RJR Nabisco stock (RN) moved through a tortured history after the buyout. KKR was forced to raise cash by taking the stock public prematurely in 1991. It did not fare well, with only a meager intermittent dividend. It was finally retired in 2000, in a strange twist when its former subsidiary, RJR Tobacco, bought the shell of RN for $6 a share. The stock had a nine-year life and a return of (2.4%) annually.
V.34 Rate of Return (DCF) RJR Nabisco Stock 1991-2017
Stockholders of RJR Nabisco (RN) fared far better than the negative return they got if they held onto the shares of RJR Tobacco (RJR) when it was spun off from (RN). The strong results from the tobacco operation and stock would have improved the RN shareholder’s return to 7.4% annually.
V.35 Rate of Return (DCF) RJR Tobacco Stock 1999-2017
RJR Tobacco stock (RJR), thanks to shrewd mergers and better operations, gave an annual return on equity of 26%. This was nothing short of amazing, and much of the success can be attributed to the very low valuation at the spin-off. Immediately after the IPO, the stock declined sharply and a buyer at the end of 1999 would have gotten a 32% annualized return on investment.
V.36 Value of Key Executives’ KKR Stock Ownership Package 1989
KKR motivated the management at RJR headquarters and operations with a package of stock and options that could return as much as 23 times their original investment, if specific operating goals were met and the stock price rose to $25 a share from its offered price of $5 a share. Unfortunately, the stock never reached the target price. At best, the potential $35 million dollar package paid out about $6.5 million. For most of the management team, the return was more like 20% over a multi-year period, with their stock going only from $5 to $6.
VI.01 RJR Stock Actual vs. Alternate Universe 1948-1988
In the alternate universe, RJR stayed only in the tobacco business. In 1988, the company would have had a very different past 40 years. The $19 billion that was invested in non-tobacco industries would have gone to shareholders as a steady stream of dividends or for stock buy-backs. Rather than diluting the stock with acquisitions, the shares outstanding would have shrunk by 52%. Overhead would be only a fifth of the amount that the bloated empire spent in its first year in Atlanta.
VI.02 Stock Returns for Alternate Universe 1949-2017
In a total 79 year history, the alternate universe is assigned no greater earnings from tobacco than it actually got in the “real world.” Its return to shareholders in the “Dark Age” would have been negative, but even with that penalty, the stock would have grown from $34 to $100,266 with dividends reinvested.
VI.03 Alternate Universe Key Operating Data 1949-2016
The “tobacco only” business would have avoided the wide swings in operating results and stock price that came from the unpredictability of RJR’s future in the real world. The uncertainty of the future of cigarettes would have still existed, but the analysts’ fear of expensive acquisitions would have dissipated.
VI.04 Rate of Return (DCF) Alternate Universe Stock 1948-2017
The alternate universe ended in 2017 with British American Tobacco (BAT) buying the entire domestic and international businesses for values that were in line with the “real world.”
VI.05 Rate of Return (DCF) Alternate Universe Business 1948-2017
The business generated a return on equity of 21.5%. As in the real world, that stellar performance still carried a tobacco “hazard” penalty in the price of the stock. The stock gave a lower return to shareholders than the actual return on equity of the business.
VI.06 MASTER FILE ALTERNATE UNIVERSE 1948-2016
This file is the database for all the information and analysis for 69 years of RJR in an alternate universe. It contains (by year) a profit statement, balance sheet, cash flow, stock information, and key operating and financial ratios for the company.
VII.01 Philip Morris Unit Cigarette Sales 1996-2016
During the 20 years ended 2016, cigarette consumption dropped almost 50%. Marlboro consumption declined only about a third, and Philip Morris maintained its hold on about 50% of the U.S. cigarette market.
VII.02 RJR and Philip Morris Historical Returns to Shareholders 1912-2016
The first 14 years after the breakup of the American Tobacco Trust were the truly magical years for RJR. Philip Morris was little more than an afterthought in that period. After that first burst of growth, RJR did well, but Philip Morris did much better. The difference in growth rates does not appear large, but the “magic” of compounding is reflected in the dollars earned for investors. In the 105 years, $1 invested in RJR would have become $1 million dollars. But a dollar in Philip Morris would have been 5 times as much.
VII.03 Philip Morris and RJR Stock Values 2016
Philip Morris’s superior performance versus RJR is reflected in its dominance in sales, profit, market share, and scope of operations worldwide in tobacco and foods.
VII.04 RJR (RJR) and Philip Morris (MO) Market Value of Stocks 1980-2016
In 28 years, RJR and Philip Morris (and their offspring) grew from successful cigarette companies to worldwide enterprises in food and tobacco, although Philip Morris was clearly more successful. The value of RJR’s efforts in foods cannot be measured because the Nabisco identity was lost when it merged with Kraft. So RJR should get at least some credit for the Kraft/Mondolez creation of Philip Morris.
VIII.01 Tax and Fee Payments by the Tobacco Industry 1998-2047 *
In 1998, the four major tobacco companies negotiated a legal settlement with states’ attorneys general and several other entities (including farmers, lawyers, and the FDA). The companies agreed to pay, for decades in the future, billions of dollars, mostly as reparations for smoking and health issues. This deal freed the four companies from many of their multiple lawsuits by smokers with tobacco-related health issues. The nature of the settlement raises the question – given the $ billions at stake, just how much does any of the parties really want smoking to cease. As a group, stakeholders in this settlement stood to reap a staggering $1.7 trillion over the next 50 years. And to underscore the profitability of cigarettes, the four companies shrugged off this financial burden merely by raising prices $.47 a pack. That was sufficient for them to make the required payments and still turn handsome profits.
VIII.02 Industry and RJR – Cigarette Unit Sales and Excise Taxes 1949-2016
Over about 7 decades, the number of smokers and the cigarettes consumed dropped sharply. At the same time, Federal Excise tax receipts increased 10 fold, and state excise tax receipts went up 33 fold.
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