R.J. Reynolds Acquires Brown & Williamson’s U.S. Cigarette and Tobacco Business in $10 Billion Combination
R.J. Reynolds Tobacco Holdings, Inc. ("RJR"), the parent company of R.J. Reynolds Tobacco Company, a leading manufacturer of cigarette and tobacco products, completed its acquisition of the U.S. business of Brown & Williamson Tobacco Corporation ("B&W"), a U.S. subsidiary of British American Tobacco p.l.c. ("BAT"). The transaction combined the second- and third-largest U.S. cigarette and tobacco businesses. In addition, RJR acquired Lane Limited, a former BAT subsidiary that manufactures various tobacco brands and distributes Dunhill cigarettes. As part of the transaction, a new publicly traded company, Reynolds American Inc. (RAI), was formed, with an equity value of approximately $10 billion.
As a result of the transaction, former RJR public stockholders own 58 percent of RAI, and BAT owns the remaining 42 percent. Based on 2002 results, RAI would have annual revenues of approximately $10 billion and account for more than 30 percent of U.S. cigarette sales. The parties expect synergies from the transaction to generate at least $500 million in annual cost savings.
Jones Day served as RJR’s primary counsel in the transaction, involving more than 30 Jones Day lawyers in New York, Washington, London, Chicago, Cleveland, and Columbus. BAT and B&W were represented by Cravath, Swaine & Moore.
This was a virtually unprecedented transaction posing complex challenges. There are few, if any, comparisons to a transaction of this magnitude involving the combination of a public company with a private company and the creation of a public company with a 42 percent stake in the hands of a single stockholder.
Working with RJR’s in-house counsel, Jones Day helped create solutions to many potentially deal-breaking issues. Among the most serious challenges were the following:
- Devising arrangements that would address corporate governance concerns arising from BAT’s owning what would normally be a controlling stake in RAI.
- Resolving many legal issues implicated by the integration of the two businesses, particularly the allocation of post-closing liabilities and indemnification obligations.
- Addressing antitrust concerns arising from the consolidation of the U.S. tobacco industry from four leading businesses to three.
- Structuring the transaction on a tax-free basis for both RJR’s public stockholders and BAT.
- Obtaining timely SEC clearance of the RJR proxy statement in coordination with all other required regulatory approvals.
The creation of RAI’s corporate governance structure involved reconciling the interests of the majority public shareholding body with those of a 42 percent stockholder that under ordinary circumstances might have the ability to dominate the company’s board of directors and management. The contractual solution provides that "independent" directors will constitute 10 out of the 13 members of a classified board. Their successors are to be chosen by a board committee whose majority is selected by independent directors other than those nominated by BAT. BAT’s interests are protected by being enabled to nominate five directors (of which three must be independent) and having its nominees serve on each of the board’s committees. In addition, BAT was granted certain veto rights as to future RAI or RAI subsidiary activities that might significantly affect its interests, such as equity securities issuances or sales of cigarette brands with international significance. BAT also entered into a 10-year standstill precluding it from acquiring additional RAI shares, subject to limited exceptions.
Notwithstanding the obvious antitrust issues raised by the combination, the FTC (by a unanimous vote) decided not to challenge the transaction. Jones Day was the leader of a three-firm legal team that achieved this result by providing the FTC with a detailed factual and economic analysis of cigarette sales in the United States. This analysis focused heavily on the significant changes that had occurred in the industry since the Master Settlement Agreement ("MSA") resolved state litigation challenges. These changes include the dramatic and continuing market entry of numerous smaller manufacturers not subject to the MSA (so-called "discounters"). Based on this record, the Jones Day-led team persuaded the FTC commissioners that the business combination would not facilitate anticompetitive behavior following the transaction. In addition, we assessed merger-reporting requirements in non-U.S. jurisdictions and coordinated the filing of required merger notifications in countries such as Brazil and Germany.
Jones Day played an integral role in designing a complex and innovative transactional structure to address the differing — and initially irreconcilable — requirements of the businesses to be combined under U.S. and non-U.S. tax laws. The legal team was then able to obtain, in a short time, favorable rulings from the Internal Revenue Service, confirming that the transactions would be tax-free to RJR, its stockholders, BAT, and B&W.
Jones Day’s representation of RJR necessitated the design and delivery of highly integrated solutions to complex issues without clear precedents. Accomplishing this result required the efforts of lawyers from six Jones Day offices in at least eight different areas of practice (M&A, capital markets, antitrust, tax, environmental, employee benefits, intellectual property, and litigation). We were extremely gratified to have the opportunity to assist our long-time client in bringing about this transforming event in its history.