Al­tria buy­ing stake in cannabis com­pany, drop­ping e-cig brands

Richmond Times-Dispatch Weekend - - FRONT PAGE - BY JOHN REID BLACK­WELL

To­bacco gi­ant Al­tria Group Inc. has agreed to spend $1.8 bil­lion for an own­er­ship stake in a Cana­dian mar­i­juana com­pany in the first ma­jor move by a large cig­a­rette maker into the cannabis mar­ket, which has been grow­ing as more govern­ments le­gal­ize its use.

The de­ci­sion by the Hen­rico Coun­ty­based com­pany to in­vest in cannabis, which re­mains il­le­gal at the fed­eral level in the U.S., comes as Al­tria and other cig­a­rette mak­ers have been try­ing to di­ver­sify their sales to off­set de­clines in cig­a­rette con­sump­tion.

Mean­while, Al­tria also said it will

dis­con­tinue two of its eci­garette prod­ucts, fu­el­ing talk that a po­ten­tial deal with Juul Labs Inc. could come soon.

Al­tria plans to take a 45 per­cent own­er­ship stake in Cronos Group Inc., a Toronto-based com­pany that pro­duces and sells dried cannabis and cannabis oils.

The deal, ex­pected to close in the first half of 2019, re­quires reg­u­la­tory ap­proval and ap­proval by Cronos share­hold­ers. Al­tria could in­crease its own­er­ship stake in the com­pany to 55 per­cent over four years through stock pur­chase war­rants.

Founded in 2012, Cronos op­er­ates two wholly owned pro­duc­ers of cannabis with pro­duc­tion fa­cil­i­ties in On­tario and Bri­tish Columbia. Its prod­ucts in­clude the med­i­cal cannabis brand Peace Nat­u­rals and two adul­tuse recreational brands, Cove and Spinach.

Al­tria said in a state­ment Fri­day that it be­lieves the global cannabis mar­ket is “poised for rapid growth over the next decade.”

“It also cre­ates a new growth op­por­tu­nity in an ad­ja­cent cat­e­gory that is com­ple­men­tary to Al­tria’s core to­bacco busi­nesses,” the com­pany said.

Canada le­gal­ized mar­i­juana for adult recreational use in Oc­to­ber. Cannabis is still il­le­gal at the fed­eral level in the U.S., but many states have moved to le­gal­ize it.

Buy­ing a stake in a Cana­dian cannabis com­pany “is not in­con­sis­tent with [Al­tria’s] po­si­tion to stay out of the U.S. with cannabis un­til it be­comes fed­er­ally per­mit­ted,” in­dus­try an­a­lyst Bon­nie Her­zog of Wells Fargo Se­cu­ri­ties wrote in a re­search note to in­vestors on Fri­day.

Al­tria “brings reg­u­la­tory, mar­ket­ing and brand man­age­ment ex­per­tise to Cronos, which should help to ac­cel­er­ate the growth of the com­pany,” Her­zog wrote.

Some mar­ket re­search has in­di­cated the cannabis in­dus­try in the U.S. could gen­er­ate $11 bil­lion in sales in 2018 and could be worth $75 bil­lion by 2030.

“In­vest­ing in Cronos Group as our ex­clu­sive part­ner in the emerg­ing global cannabis cat­e­gory rep­re­sents an ex­cit­ing new growth op­por­tu­nity for Al­tria,” said Howard Wil­lard, Al­tria’s chair­man and CEO, in a state­ment.

“We be­lieve that Cronos Group’s ex­cel­lent man­age­ment team has built ca­pa­bil­i­ties nec­es­sary to com­pete glob­ally, and we look for­ward to help­ing Cronos Group re­al­ize its sig­nif­i­cant growth po­ten­tial,” said Wil­lard, who be­came Al­tria’s top ex­ec­u­tive in May.

Cronos does not have any U.S. op­er­a­tions, a spokesman for Al­tria Group said.

A ma­jor em­ployer in the Rich­mond re­gion, Al­tria is the par­ent com­pany of top U.S. cig­a­rette maker Philip Mor­ris USA. The Rich­mond area is home to its head­quar­ters, its cig­a­rette pro­duc­tion fa­cil­i­ties, and a re­search and de­vel­op­ment fa­cil­ity.

With cig­a­rette con­sump­tion slowly de­clin­ing — in­dus­try ship­ment vol­umes de­clined about 4 per­cent in 2017 — Al­tria has been ven­tur­ing into al­ter­na­tive to­bacco prod­ucts.

The com­pany re­port­edly has been in talks to make a sig­nif­i­cant in­vest­ment in one of the lead­ing elec­tronic cig­a­rette mak­ers, Juul Labs. How­ever, elec­tronic cig­a­rettes have been fac­ing sig­nif­i­cant push­back from pub­lic health author­i­ties be­cause of ris­ing un­der­age use.

“The bot­tom line is the to­bacco com­pa­nies need to fig­ure a way to grow rev­enues in the face of de­clin­ing cig­a­rette rev­enues and un­cer­tainty over just how fast al­ter­na­tive cig­a­rette prod­uct rev­enues are go­ing to grow,” said Steve Maras­cia, di­rec­tor of re­search at Capi­tol Se­cu­ri­ties Man­age­ment in Hen­rico.

The Cana­dian cannabis mar­ket “po­ten­tially is a multi­bil­lion-dol­lar mar­ket,” Maras­cia said. “And if the U.S. ever al­lows the le­gal­iza­tion of mar­i­juana down here, it will be an even big­ger mar­ket.”

Al­tria in­tro­duced some of its own e-cig­a­rette brands, but those prod­ucts have not gained as much trac­tion as ex­pected, and on Fri­day the com­pany said that it would dis­con­tinue its MarkTen and Green Smoke e-cig­a­rette prod­ucts and its VERVE oral nico­tine prod­ucts.

Those prod­ucts are not man­u­fac­tured in the Rich­mond area, but their dis­con­tin­u­a­tion still may re­sult in some job losses in the re­gion, a com­pany spokesman said.

“We plan to let af­fected em­ploy­ees know as soon as pos­si­ble and as al­ways treat them with in­tegrity and re­spect,” the com­pany said.

The de­ci­sion to dis­con­tinue those brands

“is based upon the cur­rent and ex­pected fi­nan­cial per­for­mance of th­ese prod­ucts, cou­pled with reg­u­la­tory re­stric­tions that bur­den Al­tria’s abil­ity to quickly im­prove th­ese prod­ucts,” the com­pany said. “The com­pany will re­fo­cus its re­sources on more com­pelling re­duced-risk to­bacco prod­uct op­por­tu­ni­ties.”

The dis­con­tin­u­a­tion of the e-cig­a­rette brands is “a sur­prise move,” said Her­zog, the Wells Fargo Se­cu­ri­ties an­a­lyst. How­ever, it in­di­cates Al­tria may have de­cided to fo­cus on more promis­ing al­ter­na­tive prod­ucts such as IQOS, a “heat-not-burn” prod­uct de­vel­oped by Philip Mor­ris In­ter­na­tional Inc., a for­mer sub­sidiary that Al­tria spun off in 2008.

Un­der the terms of its deal with Cronos Group, Al­tria will be able to nom­i­nate four di­rec­tors, in­clud­ing one in­de­pen­dent di­rec­tor, to serve on Cronos’ board, which will be ex­panded from five to seven di­rec­tors.

Al­tria has agreed to pay $16.25 per share in Cana­dian dol­lars for newly is­sued Cronos Group stock. If Al­tria in­creases its own­er­ship stake, it would pay $19 per share in Cana­dian dol­lars for ad­di­tional Cronos stock.

Cronos Group re­ported sales of $4.1 mil­lion in Cana­dian dol­lars for 2017, a 636 per­cent in­crease from the pre­vi­ous year. It re­ported profit of $2.5 mil­lion for 2017. In the first nine months of 2018, the com­pany re­ported rev­enue of just over $10 mil­lion Cana­dian dol­lars.

The Canada-based in­vest­ment bank­ing firm Canac­cord Ge­nu­ity said in a re­port Fri­day that it be- lieves an in­vest­ment the size of Al­tria’s in cannabis “pro­vides over­all le­git­i­macy to the in­dus­try” and should drive val­u­a­tions higher.

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