Translate
Trading: TSX: ROC
TORONTO, Aug. 12 /CNW/ - Rothmans Inc. today announced its results for the first quarter of fiscal 2009, which ended June 30, 2008.
Rothmans Inc. (the "Company") incurred a loss of $354.4 million for the first quarter or ($5.20) basic loss per share, compared to earnings of $33.8 million or $0.50 basic earnings per share in the same quarter of fiscal 2008. The loss in the period results from the expenses incurred in connection with the previously announced resolution of the RCMP investigation, the make-whole premium associated with Rothmans, Benson & Hedges Inc.'s $150 million 5.552% senior unsecured bonds, series A and certain expenses associated with the offer by a wholly-owned indirect subsidiary of Philip Morris International Inc. These expenses are described in more detail below and in the accompanying MD&A for the quarter ended June 30, 2008.
Adjusted operating earnings and adjusted operating earnings per share were $35.4 million(1) and $0.52(1) per basic share versus $33.8 million and $0.50 per basic share in the comparable period in the prior year primarily due to lower income tax rates in the recent quarter. Adjusted operating earnings exclude the impact of the expenses described above.
Sales at the Company's 60%-owned subsidiary, Rothmans, Benson & Hedges Inc. (RBH), net of excise duty and taxes, decreased to $176.2 million in the most recent quarter compared with $177.4 million in the first quarter of fiscal 2008. Continued consumer movement into the cigarette price category and higher trade program spending were only partially offset by price increases implemented during the first quarter of fiscal 2009.
RBH's adjusted EBITDA margin for the first quarter was 55.5%(1) in both the quarter ended June 30, 2008 and June 30, 2007. Continued consumer movement to the cigarette price category and higher trade program expenses were offset by higher prices in the recent quarter. The increase in adjusted EBITDA margin for the first quarter compared with the 43.4%(1) margin in the quarter ended March 31, 2008 reflects higher sales volumes and price increases that occurred in the first quarter.
RBH shipped a total of 2.8 billion equivalent sticks into the domestic market during the first quarter of fiscal 2009 consistent with the comparable period of the prior year with increased sales of price category cigarettes offsetting continued declines in premium and fine cut products. Based on market share information provided by the Nielsen Company, RBH's share of total domestic cigarettes sold by retailers increased to 33.6% for the period ended June 30, 2008, from 32.1% for the comparable period of the prior year on a rolling 12 month basis.
"The settlement of the RCMP investigation had an obvious significant impact on the results of the current quarter. We are pleased that on an operating basis RBH continued to maintain sales volumes and grow market share" said John Barnett, President and Chief Executive Officer of Rothmans Inc. and RBH.
(1) Adjusted operating earnings, adjusted operating earnings per share
and adjusted EBITDA margin are non-GAAP financial measures.
Investors are cautioned that these measures do not have standardized
meanings prescribed by GAAP. They should not be considered
alternatives to earnings and comprehensive earnings or loss or loss
per share as presented in the unaudited consolidated financial
statements. See the accompanying MD&A for further details and a
reconciliation of GAAP earnings to adjusted operating earnings.
Resolution of the RCMP Investigation
As previously announced on July 31, 2008, RBH and the Company reached an agreement with the Government of Canada and the governments of all ten provinces that resolved the RCMP's investigation relating to sales of products exported from Canada by RBH in the period 1989 - 1996. Under the terms of the settlement reached with the governments, payments expected to total $550 million are to be made commencing in 2008 and over the next ten years. The terms of the settlement are set out in the comprehensive agreement and in an order of the Ontario Court of Justice issued on July 31, 2008. Details are summarized in a press release issued by the Company on July 31, 2008.
The Company recorded an expense of $415 million in the unaudited consolidated financial statements for the period ended June 30, 2008 to recognize the settlement. The settlement expense and the obligation were determined using a valuation technique based on the present value of the estimated future cash payments discounted to June 30, 2008. As a result of this settlement expense, the Company's 60% owned subsidiary company, RBH, has a shareholder deficiency of $209 million. Under Canadian Generally Accepted Accounting Principles (GAAP), the minority interest portion of the loss recorded in the quarter ended June 30, 2008 cannot be shown as an asset in the unaudited consolidated financial statements of the Company. Included in the total loss recorded at RBH is $84 million attributable to the minority interest. Subsequent earnings of RBH will be allocated entirely to the Company's interest in RBH until previously absorbed losses are recovered.
As a consequence of the settlement, RBH expects to repay its currently outstanding 5.552% senior unsecured bonds, series A in the principal amount of $150 million. Although the bonds have a scheduled maturity date of December 21, 2011, the terms of the settlement may result in an event of default under the terms of the trust indentures pursuant to which the bonds were issued. As a result, RBH has recorded an expense in the quarter ended June 30, 2008 of $9.7 million for the make-whole premium and accrued interest payments required under the terms of the trust indentures. RBH has entered into an agreement with JPMorgan Chase Bank N.A. to provide a $200 million unsecured one-year revolving loan facility. The proceeds from this facility will be used to fund the principal repayment, the make-whole premium and accrued interest on the bonds and for RBH's working capital purposes.
Offer by Philip Morris International
On July 31, 2008, the Company entered into a support agreement with Philip Morris International Inc. (PMI) under which an indirect wholly-owned subsidiary of PMI has made an offer to all Company shareholders to purchase all of the outstanding common shares of the Company for $30 per share in cash. The terms and conditions of the offer contained in the support agreement are described in the PMI take-over bid circular and the Rothmans Inc. directors' circular which can be found on www.sedar.com or on the Company's website at www.rothmansinc.ca.
The offer has the full support of the Board of Directors of Rothmans Inc. and the Board believes the offer is fair from a financial point of view to shareholders and is in the best interests of the Company and recommends that shareholders accept the offer and tender their shares to the offer.
Quarterly Dividend
Under the terms of the support agreement, the Board of Directors of Rothmans Inc. agreed to suspend the regular quarterly dividend for the second quarter of fiscal 2009 which has historically been paid in September.
Analyst Conference Call and Webcast
Rothmans Inc. management will hold a conference call with analysts to discuss the first quarter results at 8:30 a.m. Toronto time, Tuesday, August 12, 2008. In order to listen to the conference call, shareholders are invited to call 1-800-766-6630 or 416-695-6120.
The call will also be webcast via the Company's investor website, www.rothmansinc.ca. At the completion of the conference call, a recording will be available until August 20th by calling 1-800-408-3053 and entering reservation number 3268375. The recording can also be accessed through the investor website.
Media are invited to listen to the call and to contact Barry Joslin at (416) 442-3634 for further information.
About Rothmans Inc.
Rothmans Inc. is a widely held, publicly traded Canadian company that participates in the Canadian tobacco industry through 60%-owned Rothmans, Benson & Hedges Inc., Canada's second largest tobacco company. RBH currently employs approximately 750 people at its head office in Toronto, its sales offices across Canada and its manufacturing facilities in Brampton, Ontario and Quebec City, Quebec where it has been operating for over 100 years. Rothmans is Canada's only publicly traded company with interests exclusively in the tobacco industry and is listed on the Toronto Stock Exchange under the symbol ROC.
Management's Discussion and Analysis for the three months ended June 30, 2008 ----------------------------------------
Management's Discussion and Analysis of Financial Condition and Results of Operations, or MD&A, provides shareholders with a review of significant developments in the Company's financial performance in the fiscal quarter ended June 30, 2008 compared with the prior year. It also discusses factors that could affect future performance. This MD&A should be read in conjunction with the attached unaudited consolidated financial statements for the period ended June 30, 2008, the annual MD&A for the year ended March 31, 2008 and the audited annual consolidated financial statements of the Company for the year ended March 31, 2008 which are available at www.sedar.com or on the Company's website at www.rothmansinc.ca. The results reported herein have been prepared in accordance with Canadian Generally Accepted Accounting Principles (GAAP) and are presented in Canadian dollars. This MD&A is current as of August 11, 2008.
Responsibility of Management and the Board of Directors
Management is responsible for the information disclosed in this MD&A and has in place the appropriate information systems, procedures and controls to ensure that information used internally by management and disclosed externally is materially complete and reliable. In addition, the Company's Audit Committee and Board of Directors provide an oversight role with respect to all public financial disclosures by the Company, and have reviewed and approved this MD&A and the accompanying unaudited consolidated financial statements.
Disclosure Controls and Procedures and Internal Controls over Financial Reporting
The Chief Executive Officer and Chief Financial Officer have designed disclosure controls and procedures, or caused them to be designed under their supervision, to provide reasonable assurance that material information relating to the Company and its consolidated subsidiaries would be made known to them by others within those entities.
With respect to internal controls over financial reporting, the Chief Executive Officer and Chief Financial Officer have designed them, or caused them to be designed under their supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external reporting purposes in accordance with Generally Accepted Accounting Principles.
During the Company's most recent interim period, there were no changes in the Company's internal controls over financial reporting that have materially affected, or are reasonably likely to materially affect, the Company's internal controls over financial reporting.
Forward Looking Statements
Certain statements contained in this MD&A and other sections of this document (in particular the sections entitled "Industry Overview" and "Outlook") constitute "forward-looking statements" and express views as to future events, circumstances and trends relating to RBH's business and the Company. Words such as "plans", "intends", "outlook", "expects", "anticipates", "estimates", "believes", "should" and similar expressions may identify forward-looking statements. Forward-looking statements are based on management's current expectations and assumptions and entail various risks and uncertainties. There is no assurance that any forward-looking statement will materialize. Actual results may differ materially from these expectations and forward-looking statements, if known and unknown risks or uncertainties affect RBH's business or the Company, or if management's expectations or assumptions prove to be inaccurate. Unless otherwise indicated, forward-looking statements describe expectations as of August 11, 2008.
Factors that could cause the Company's actual results to differ materially from the forward-looking statements contained herein include, but are not limited to: government claims and potential claims, including the results of ongoing investigations; product liability claims; increases in the levels of contraband product in the market; increased competition and competitor initiatives; a lower rate of growth in the cigarette price category; continued declines in consumption of tobacco products; RBH's ability to continue to implement price increases; fluctuating wholesaler and consumer purchasing patterns; changes in government taxation policy; changes in government legislation and regulation including legislation banning the display of tobacco products in retail stores; new product standards; dependence on the domestic tobacco market; failure to meet conditions of the Offer (as defined below) and/or the failure to obtain the required approvals or clearances from regulatory and other agencies and bodies on a timely basis or at all; the Company's and PMI's abilities to complete a second-step transaction; the Company's and PMI's abilities to fund the payment of any required termination fees; RBH and the Company's abilities to fund the payments required under the terms of the Settlement (defined below); and RBH's ability to fund the repayment of the Bonds (defined below).
The Company disclaims any obligation or intention to update or revise any forward-looking statement, whether the result of new information, future events or otherwise. Additional information concerning risks and uncertainties affecting RBH's business and the Company and other factors that could cause financial results to fluctuate is set forth below under "Risks and Uncertainties" and "Outlook" and is contained in the Company's filings with Canadian securities regulatory authorities, including the Company's Annual Information Form (in particular under "Legal Proceedings" and "Risk Factors") available on SEDAR at www.sedar.com or on the Company's website at www.rothmansinc.ca.
Terminology used in this MD&A
Throughout this MD&A, "GAAP" refers to Canadian Generally Accepted Accounting Principles, "Rothmans" and "the Company" refer to Rothmans Inc., "RBH" refers to Rothmans, Benson & Hedges Inc., which is 60%-owned by Rothmans Inc., "PMI" refers to Philip Morris International Inc., a subsidiary of which owns the remaining 40% of RBH.
The "recent quarter" refers to the three months ended June 30, 2008, and "prior quarter" refers to the three months ended March 31, 2008. "Fiscal 2009" or "recent fiscal year" refers to the fiscal year ending March 31, 2009 and other similar references to a fiscal year (e.g., fiscal 2008) refer to the fiscal year then ended on March 31 (e.g., March 31, 2008). "EPS" refers to earnings per share.
"The three major suppliers of tobacco products" or "three majors" refer to RBH, Imperial Tobacco Canada Limited (ITL) and JTI-MacDonald Corp. (JTI). "Premium cigarettes" refers to tailor-made cigarettes sold at premium retail prices, "cigarette price category" and "price category cigarettes" refers to cigarettes sold at less-than-premium prices and "price category" refers to the combination of the cigarette price category and the fine cut category (loose tobacco and pre-portioned tobacco sticks). "Domestic composite market" refers to all fully tax-paid cigarettes and fine cut tobacco products sold into the Canadian market. "Dark markets" refer to provincial jurisdictions where the display of tobacco products by retailers is banned by government regulation. "Nielsen" refers to the Nielsen Company, a recognized market research company. "CTMC" refers to the Canadian Tobacco Manufacturers Council.
"Settlement" refers to the settlement entered into by Rothmans and RBH effective July 31, 2008 with the Government of Canada and the governments of all ten provinces that resolved the RCMP's investigation relating to sales of products exported from Canada by RBH in the period 1989 - 1996. "Comprehensive Agreement" refers to the comprehensive agreement dated as of July 31, 2008 entered into by RBH and the Company with Her Majesty the Queen in Right of Canada and Her Majesty the Queen in Right of each of the Provinces of Canada in connection with the Settlement. "Court" refers to the Ontario Court of Justice.
"Bonds" refers to RBH's $150 million - 5.552% senior unsecured bonds, series A. "Support Agreement" refers to the support agreement dated as of July 31, 2008 pursuant to which an indirect wholly-owned subsidiary of PMI has made an offer to all Company shareholders to purchase all of the outstanding common shares of the Company for $30 per share in cash (referred to herein as the "Offer").
Non-GAAP Measures
This MD&A includes reference to certain supplementary non-GAAP financial measures - adjusted operating earnings, adjusted operating earnings per share and adjusted EBITDA margin - which are being included to provide information to investors regarding RBH's operating performance excluding the impact of the Settlement and certain expenses related to the Support Agreement. These measures are key metrics used by management in evaluating the performance of RBH's business on an ongoing basis.
Adjusted operating earnings and adjusted operating EPS refer to the loss and comprehensive loss and loss per share adjusted for the Settlement expense, the tax effected make-whole premium expense associated with the repayment of the Bonds, certain advisory expenses related to the Support Agreement and the minority interest for the 40% of RBH not owned by the Company.
Adjusted EBITDA margin refers to RBH's adjusted operating earnings before interest, taxes, depreciation and amortization as a percentage of sales, net of excise duty and taxes. EBITDA margin provides a metric allowing period-to-period comparisons of the core RBH operating performance before the impact of changes in capital structure, interest, taxes and capital spending and does not include income from investments earned by the Company or the expenses related to operating Rothmans Inc. as a public company.
Investors are cautioned that adjusted operating earnings, adjusted operating EPS and adjusted EBITDA margin do not have any standardized meaning prescribed by GAAP and are therefore unlikely to be comparable to similar measures presented by other companies. References to adjusted operating earnings, adjusted operating EPS and adjusted EBITDA margin should not be considered alternatives to earnings and comprehensive earnings or loss and earnings or loss per share as presented in the unaudited consolidated financial statements.
The following table provides a reconciliation of adjusted operating earnings and adjusted operating EPS to the relevant GAAP financial measure as presented in the unaudited consolidated financial statements.
Adjusted operating earnings and adjusted operating EPS
Three months ended
June 30, 2008
----------------------------
(Loss)/earnings Per Share
----------------------------
(Loss)/earnings and comprehensive (loss)/
earnings for the period (354,360) (5.20)
Adjustments to (loss)/earnings and
comprehensive (loss)/earnings (net of taxes):
Settlement expense (note 4) 415,000 6.09
Make-whole premium expenses (note 9) 6,123 0.09
Expenses related to the Support Agreement(x) 1,479 0.02
Minority interest(xx) (32,830) (0.48)
----------------------------
Adjusted operating earnings and adjusted
operating EPS 35,412 0.52
----------------------------
(x) Expenses related to the Support Agreement are additional advisory
fees incurred relating to the Support Agreement with PMI (see note
18).
(xx) Minority interest reflects operating earnings attributable to the
40% interest of RBH not owned by the Company.
Resolution of the RCMP Investigation
On July 31, 2008 the Company announced that an agreement had been reached with the Government of Canada and the governments of all ten provinces that resolved the RCMP's investigation relating to sales of products exported from Canada by RBH in the period 1989 - 1996. Under the terms of the Settlement, payments expected to total $550 million are to be made commencing in 2008 and over the next ten years. As part of the Settlement, RBH entered a plea of guilty to a single count of violating a provision of the Excise Act (Canada).
As previously disclosed, the RCMP investigation related to allegations that some of the tobacco products manufactured and exported by RBH were illegally smuggled back into Canada without payment of applicable excise and tobacco taxes and duties. RBH and the Company agreed to this overall resolution in order to bring closure to this legal matter and put an end to the uncertainty and burden on the companies arising from the RCMP's investigation.
The terms of the Settlement are set out in the Comprehensive Agreement and in an order of the Court issued on July 31, 2008.
The terms of the Settlement require the following payments to be made:
- $100 million fine payable by RBH by no later than October 29, 2008;
- $50 million towards a new government Contraband Tobacco Enforcement
Strategy payable by RBH no later than December 15, 2008;
- $200 million payable by the Company over 10 years at a rate of
$20 million per year with the first payment to be made by December
31, 2009;
- an estimated $200 million payable by RBH, with the first payment of
$50 million to be made no later than December 31, 2008 and the
remainder scheduled to be paid over a 10-year period based on a
formula related to the revenue of RBH set out in the Comprehensive
Agreement.
As required under the terms of the Comprehensive Agreement, these payments are not deductible for income tax purposes.
The Comprehensive Agreement also requires RBH to comply with and implement the terms of a Tobacco Compliance Measures Protocol which forms part of the Comprehensive Agreement.
The Company has recorded an expense of $415 million in the unaudited consolidated financial statements for the period ended June 30, 2008 to recognize the Settlement. The Settlement expense and the obligation has been determined using a valuation technique based on the present value of the estimated future cash payments discounted at an average rate of 7.8%, which represents a credit risk adjusted rate for debt instruments of a similar duration to the future cash payments required under the Settlement.
Offer by Philip Morris International
Subsequent to June 30, 2008, the Company entered into the Support Agreement with PMI. Pursuant to the agreement, an indirect wholly-owned subsidiary of PMI has made the Offer to all Company shareholders to purchase all of the outstanding common shares of the Company for $30 per share in cash. Under the terms of the agreement, the Company has agreed to co-operate and support the offer. PMI's obligation to acquire shares is subject to certain conditions including the receipt of certain regulatory approvals. In the event that the transaction is not completed, PMI will pay a termination fee of $81.7 million to the Company. In certain circumstances where the agreement is terminated, including in the event of a superior offer received from a third party which the Company accepts, the Company will be required to pay PMI $40.9 million. If the agreement is terminated as a result of a breach or failure to perform obligations by either the Company or PMI, the other party is entitled to an expense reimbursement payment of $20.4 million. Under the terms of the Support Agreement, the Board of Directors of the Company has agreed to suspend the regular quarterly dividend historically paid in September.
New Accounting Pronouncements
As required by the Canadian Institute of Chartered Accountants ("CICA"), on April 1, 2008, the Company adopted CICA Handbook Section 3031 "Inventories". Section 3031 replaces Section 3030 "Inventories". The objective of this new section is to prescribe the accounting treatment for inventories. This section requires inventories to be measured at the lower of cost or net realizable value and also provides guidance on the appropriate methods of determining cost and net realizable value. Under this new accounting standard, the cost of inventories includes the cost of purchase along with other costs incurred in bringing the inventories to their present location and condition.
The Company implemented this new accounting standard at the beginning of its current fiscal year, on a prospective basis without the restatement of prior periods. The prospective adoption of this new standard resulted in changes in the accounting and presentation for inventories as well as the recognition of certain transitional adjustments that have been recorded in opening retained earnings as described in note 2. As permitted by the implementation of the new standard, the comparative unaudited interim consolidated financial statements have not been restated.
The implementation of this Handbook requirement did not have a material impact on the financial results of the Company.
Industry Volumes & Market Share Measurement
The market share data reported in this MD&A was obtained from Nielsen and measures sales of RBH cigarettes sold by selected retailers in the domestic market. RBH continues to evaluate the quality of fine cut market share information available for the purposes of external reporting. Nielsen uses a sampling approach to determine product market share for tobacco products sold at retail. This information, by its nature, is subject to sampling error and variability over a range that is not determinable. Management believes that market share information provided under this approach may be useful in reflecting market trends rather than providing an accurate absolute measure of market share at any particular point in time. Nielsen market share of retail sales cannot be meaningfully compared with market share of volumetric shipments sold to wholesalers which had been previously reported by the Company.
Industry Overview
Although it is not possible to provide a meaningful estimate of the recent quarter tax paid industry volumes, RBH management believes that a number of factors continue to affect overall industry shipments, including:
- Contraband - During the second quarter of fiscal 2008, the CTMC
released a study on the illicit usage of cigarettes in the Canadian
marketplace. This study indicated that 22% of the national cigarette
volume being purchased was contraband product; up from 16.5% found in
a similar study conducted a year earlier. High taxes reflected in the
selling price to the consumer contribute to probable increases in the
presence of contraband product in the domestic market.
- Seasonal trends in consumer purchasing patterns - The period between
April and September has demonstrated stronger industry shipments than
the period between October and March. RBH management believes that
smoking restrictions are causing consumer consumption variations
between the summer and winter seasons.
- Fluctuations in wholesaler buying patterns - Swings in wholesaler
purchasing patterns motivated by the timing of tax increases, price
increases, manufacturer trade programs, manufacturer trade terms and
other factors are anticipated to have a significant effect on
quarter-to-quarter sales volumes.
- Continued declines in consumer consumption of tobacco products.
During the recent quarter, dark market legislation came into effect in Ontario and Quebec, the two most populous provinces in Canada.
Also, during the recent quarter the Province of Prince Edward Island raised its Provincial Tobacco Tax on cigarette and tobacco stick products by $5.00 per carton or equivalent stick basis. The corresponding increase on fine cut products was $4.02 on a carton equivalent stick basis.
Effective July 1, 2008, the federal government changed the application of federal excise duty on fine cut and pipe tobacco products to a "per 50 gram or fraction thereof contained in a package" basis. This change effectively introduces a "tax penalty" on fine cut products and pipe tobacco not packaged in multiples of 50 grams. Also effective July 1, 2008, the Yukon government raised its tobacco tax on cigarettes by $15.60 per carton. The corresponding increase on fine cut products was $32.64 on a carton equivalent stick basis.
Results at Rothmans, Benson & Hedges Inc.
In the quarter ended June 30, 2008, RBH shipped a total of 2.8 billion equivalent sticks into the domestic market consistent with the comparable period of the prior year with increased sales of price category cigarettes offsetting continued declines in premium and fine cut products. Based on market share information provided by Nielsen, RBH's share of total domestic cigarettes sold by retailers increased to 33.6% for the period ended June 30, 2008, from 32.1% for the comparable period of the prior year on a rolling 12 month basis. Given RBH's volume performance in fiscal 2008 this trend is indicative of continued domestic industry, tax-paid cigarette volume erosion. Compared to the prior quarter, RBH shipment volumes increased 18.7% reflecting normal seasonality.
RBH's sales, net of excise duty and taxes, of $176.2 million in the recent quarter were $1.2 million lower than in the comparable period of the prior year. Continued consumer movement into the cigarette price category, in particular the lowest tier of that category, and higher trade program spending were only partially offset by price increases implemented during the recent quarter.
RBH's adjusted EBITDA margin was 55.5% in both the recent quarter and the quarter ended June 30, 2007 compared to 43.4% in the quarter ended March 31, 2008. The recent quarter performance being consistent with the same period of the prior year is primarily due to continued consumer movement to the cigarette price category and higher trade program expenses offset by higher prices in the recent quarter. The increase in adjusted EBITDA margin for the first quarter compared with the quarter ended March 31, 2008 is primarily due to higher sales volumes and price increases implemented during the recent quarter.
During the first quarter, RBH implemented a number of price changes for its products. The wholesale price for the Dunhill brand was increased by $5.20 per carton. Wholesale prices for all cigarette categories were increased by $1.00 per carton nationally, except for the Accord and Canadian Classics brands in the Atlantic region. The price for Quebec Classique was reduced by $5.97 per carton. Prices on fine cut products, tobacco sticks, cigars and pipe tobacco were increased by varying amounts depending on format.
Subsequent to the quarter, on July 2, 2008, RBH launched 100 gram and 150 gram formats into the fine cut category.
Rothmans Inc. Financial Results
The Company incurred a loss of $5.20 per share in the recent quarter versus earnings per share of $0.50 in the comparable period of the prior year primarily as a result of entering into the Settlement. The loss and comprehensive loss in the recent quarter was $354.4 million versus earnings and comprehensive earnings of $33.8 million in the comparable period of the prior year.
Adjusted operating earnings and adjusted operating EPS were $35.4 million and $0.52 per basic share versus $33.8 million and $0.50 per basic share in the comparable period in the prior year primarily due to lower income tax rates in the recent quarter.
Investment income decreased to $2.5 million in the recent quarter from $2.7 million in the comparable period of the prior year mainly due to lower interest rates during the recent quarter.
Operating costs increased slightly to $81.9 million in the recent quarter versus $80.1 million in the comparable period of the prior year, primarily as a result of advisory fees associated with the Company's entry into the Support Agreement.
Interest expense on long term debt increased to $11.8 million in the recent quarter versus $2.1 million in the comparable period of the prior year due to the adjustment to long-term debt to reflect the make-whole premium expenses incurred in anticipation of the repayment of RBH's Bonds. (See "Capability to Deliver Results - Cash Resources" below)
Income tax expense was $30.3 million in the recent quarter compared with $37.5 million in the comparable period of the prior year. This decrease in income tax expense on higher operating earnings generated in the quarter is primarily a result of the make-whole premium expensed and income tax rate reductions. The effective tax rate for the recent quarter based on the loss and comprehensive loss for the period was materially affected by the non-deductibility of the $415 million Settlement expense recorded during the recent quarter.
As a result of the Settlement expense, the Company's 60% owned subsidiary company, RBH, has a shareholder deficiency of $209 million. Under GAAP, the minority interest portion of the loss recorded in the quarter ended June 30, 2008 cannot be shown as an asset in the unaudited consolidated financial statements of the Company. Included in the total loss recorded at RBH is $84 million attributable to the minority interest. Subsequent earnings of RBH will be allocated entirely to the Company's interest in RBH until the previously absorbed losses are recovered.
Capability to Deliver Results
Cash Flow
RBH's operations generate significant cash resources. These are currently expected to be sufficient to fund interest payments on RBH's debt, capital expenditures and payments required under the Settlement. In the near term, RBH has suspended its dividend to shareholders to ensure sufficient cash resources are available to make required payments and to ensure sufficient working capital for on-going business operations. RBH's dividend policy will be re-examined in the future giving consideration to working capital requirements and the requirement to refinance the JPMorgan Chase Bank, N.A. one year revolving loan facility (see "Cash Resources" below).
Under the terms of the Support Agreement, the Board of Directors of the Company agreed to suspend the regular quarterly dividend for the second quarter of fiscal 2009, which has historically been paid in September. The Company's cash resources are expected to be sufficient to fund its operations and the future payments required by the Comprehensive Agreement. The Company's dividend policy will be re-evaluated by the Board of Directors of the Company following the outcome of PMI's Offer.
RBH's cash flow from operations before changes in working capital was $64.5 million in the recent quarter compared with $55.5 million in the comparable quarter of the prior year. RBH's ability to generate cash from operations is generally sufficient to fund the day-to-day financing needs of RBH's business. It is anticipated that additional funds, should they be required, would be obtained from the shareholders of RBH.
During the recent quarter, the Company paid dividends of $23.8 million, representing a dividend of $0.35 per share.
Cash Resources
Cash, cash equivalents and short-term investments of $204.7 million at June 30, 2008 represented the consolidated cash resources of the Company versus $234.9 million at March 31, 2008. The decrease in cash, cash equivalents and short-term investments is predominantly due to the first quarter dividend paid by the Company, earnings from RBH's operations, reduction in accounts payable and normal quarterly fluctuations in RBH's working capital requirements. On a non-consolidated basis, Rothmans held cash, cash equivalents and short-term investments of $129.9 million at June 30, 2008, a decrease from $154.4 million at March 31, 2008 reflecting the suspension of the RBH dividend and dividends paid by the Company during the quarter.
As a consequence of the Settlement, RBH expects to repay the Bonds. Although the Bonds have a scheduled maturity date of December 21, 2011, the terms of the Settlement may result in an event of default under the terms of the trust indentures pursuant to which the Bonds were issued.
RBH obtained a credit facility as described below in order to fund any required repayment of the $150 million principal amount of the Bonds plus a make-whole premium of approximately $9.7 million relating to the loss of interest between the estimated repayment date and the original maturity date of December 21, 2011. As a result, RBH revised its estimate of future cash flow payments under the Bonds to include the make-whole premium and adjusted the carrying amount of the Bonds by recognizing a charge of $9.7 million.
On July 31, 2008, RBH entered into an agreement with JPMorgan Chase Bank, N.A. to provide a $200 million unsecured one-year revolving loan facility (the "JPMorgan Facility") bearing interest at the Canadian Deposit Offering Rate plus 2%. The proceeds from this facility will be used to fund the principal repayment, the make-whole premium and accrued interest on the Bonds and for working capital purposes. After the facility is outstanding for more than 75 days, additional fees relating to the bank's syndication of the loan may be payable.
The Company and PMI have also entered into a financing support letter with RBH pursuant to which they have agreed to provide appropriate credit enhancement, guarantees, credit facilities, debt or other financing to RBH at such time as the JPMorgan Facility expires, up to an amount of 60% in the case of the Company, and 40% in the case of PMI, of the then principal amount of the JPMorgan Facility, provided, however, that the Company and PMI shall not be obligated to provide any such credit support unless, despite RBH's commercially reasonable efforts, it has not been able to secure, on commercially reasonable terms, replacement financing to repay the JPMorgan Facility before its expiry. PMI shall not be obliged to provide any credit support in the event of a change in control of the Company otherwise than as a result of an acquisition of common shares of the Company by any affiliate of PMI.
Contractual Obligations
The table below summarizes the Company's obligation to make future payments on long-term debt, operating lease and other obligations and purchase of tobacco as at June 30, 2008.
-------------------------------------------------------------------------
Subsequent
Contractual Obligations Fiscal Fiscal To Fiscal
($000's) 2009 2010 2010 Total
-------------------------------------------------------------------------
Long term debt - 158,759 - 158,759
Settlement expenses 200,000 20,000 330,000 550,000
Operating leases 2,847 3,153 6,777 12,777
Purchase obligations 19,479 - - 19,479
-------------------------------------------------------------------------
Total contractual
obligations 222,326 181,912 336,777 741,015
-------------------------------------------------------------------------
Critical Accounting Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the unaudited consolidated financial statements and accompanying notes. Although these estimates are based on management's best knowledge of current events and actions that the Company and RBH may undertake in the future, actual results could differ from these estimates. Other than as discussed below, there are no critical accounting estimates that require disclosure or discussion in this report.
Settlement Obligations
The Settlement payment obligations of $550 million and the resulting Settlement expense of $415 million recorded in the June 30, 2008 unaudited consolidated financial statements are based in part on management estimates of future revenues to be generated by RBH and discount rate assumptions applied to the estimated future cash payments associated with the Settlement. Changes in these estimates and assumptions may arise as a result of changes in market conditions or new information and such changes could have a material effect on the Company's unaudited consolidated financial statements.
Assuming all other variables remain constant, a 1% decrease in the discount rate applied to the estimated future cash payments associated with the Settlement obligation would increase the settlement expense and obligation by $13 million. A 1% increase in the discount rate would decrease the Settlement expense and obligation by $12 million. Since $150 million of the future cash payments associated with the Settlement obligation is dependent upon future revenues generated by RBH, the estimated fair value of the Settlement obligation could change in subsequent periods based on actual results and changes in estimates of future revenues. Assuming all other variables remain constant, a 1% increase or decrease in the estimated future revenues of RBH would increase or decrease the Settlement expense and obligation by $1 million.
Employee Future Benefits
The actuarial assumptions used to determine the benefit obligation and associated expense of RBH's various defined benefit pension plans were not adjusted in the recent quarter. Therefore, the discount rate, or the expected return on plan assets remain as described in the annual MD&A for the year ended March 31, 2008.
Litigation Contingent Liabilities
As discussed in the annual MD&A for the year ended March 31, 2008, the Company and RBH have been the subjects of various legal actions, proceedings, investigations and claims. Based on the stage of those proceedings, management is unable to meaningfully estimate the liability, if any, that might result from claims and neither the Company nor RBH has accrued for potential liabilities. However, the outcome of any contingency is uncertain. If successful, these claims, potential claims either individually or in the aggregate, could involve significant damages which would have a significant adverse effect on the financial condition of the Company, and the Company and RBH may not have the resources to satisfy such claims.
Risks and Uncertainties
Various legal actions, proceedings and claims arising out of the sale, distribution, manufacture, development, advertising and marketing of tobacco products are pending, have been threatened or may be instituted against the Company and RBH. These actions, claims and proceedings, both pending and threatened, are described in note 16 to the audited annual consolidated financial statements of the Company for the year ended March 31, 2008. Other than the Settlement (as described herein and in note 4 to the interim unaudited consolidated financial statements for the three months ended June 30, 2008) and as set out below, there have been no developments of a material nature during the fiscal year to date concerning these matters.
As previously disclosed, in January 2001 the Province of British Columbia initiated a lawsuit in the Supreme Court of British Columbia against RBH, the Company and numerous other Canadian and international tobacco companies and various tobacco trade associations seeking unspecified damages in an amount to cover the costs that allegedly have been, or will be, incurred by the Government of British Columbia in providing health care benefits to British Columbia residents who have allegedly suffered smoking-related illnesses. The action, brought pursuant to the Tobacco Damages and Health Care Costs Recovery Act (British Columbia), is proceeding and the trial is currently scheduled for the fall of 2010. In March 2008, the federal government brought a motion seeking to strike out a third party notice which would make it a party to the lawsuit. The motion was allowed in April 2008. The Canadian tobacco companies are appealing this decision, and the appeal should be heard in early 2009.
Additional information concerning legal matters affecting the Company and RBH are contained in the Company's filings with securities regulatory authorities including the Company's 2008 Management's Discussion and Analysis and Notes to Consolidated Financial Statements, the 2008 Annual Information Form (in particular under "Legal Proceedings"), Material Change Report dated July 31, 2008 and the Comprehensive Agreement which can be accessed at www.sedar.com or on the Company's website at www.rothmansinc.ca.
Outlook
It is believed that the presence of contraband remains a key factor in affecting both RBH and total tax-paid industry volumes. Continued availability of contraband product in the domestic market as a result of high tobacco tax rates across the country may cause further declines in tax paid industry volumes in the future resulting in a negative impact on RBH's sales volumes.
Competition by each of the three major suppliers of tobacco products in the cigarette price category has led to significant growth of that category in recent years, and there continues to be a significant degree of variability in the underlying business trends, making it difficult to accurately estimate the impact on consumer purchasing patterns.
Looking ahead, Rothmans expects that a number of factors could affect its financial performance including:
- the success of efforts by the Company and RBH to defend themselves
against legal claims and the outcome or settlement of such claims
that are ongoing or may arise in the future;
- increased levels of contraband product that may occur due to the high
tax environment;
- a lower rate of growth in the cigarette price category and RBH's
ability to successfully compete in that segment;
- the impact of continued high levels of taxation on consumer
purchasing patterns;
- continued declines in the consumption of tobacco products;
- RBH's ability to continue to implement price increases for its
products;
- the impact of RBH's efforts to increase its cigarette market share in
the declining premium cigarette category;
- the continued volatility in the cigarette market as a result of the
evolution of the Canadian cigarette price category, varying
wholesaler purchasing patterns and seasonal fluctuations in smoker
consumption;
- the impact of continued restrictive legislation and regulations
regarding the sale of tobacco products including legislation banning
the display of tobacco products in retail stores;
- the impact related to compliance with the Tobacco Compliance Measures
Protocol which forms part of the Comprehensive Agreement;
- RBH's ability to maintain its leading position in the fine cut
segment;
- government tax policy regarding the differentiation in tax rates
applicable to fine cut products in comparison to tailor-made
cigarettes;
- RBH's continued success at maintaining or reducing costs, especially
in view of the potential for regulated changes to product and
packaging specifications;
- RBH and the Company's abilities to fund the payments required under
the terms of the Settlement;
- RBH's ability to fund the repayment of the Bonds;
- The ability of the Company and PMI to satisfy or complete the
conditions of the Offer as required by the Support Agreement;
- The availability of regulatory approvals required for the completion
of the Offer;
- The ability of the Company and PMI to complete a second-step
transaction; and
- The ability of the Company and PMI to fund the payment of any
required termination fees.
Unaudited Interim Consolidated Statements of Operations, Comprehensive
(Loss) Earnings and Retained Earnings (Deficit)
Three months ended June 30
(in thousands of dollars,
except per share data) 2008 2007
-------------------------------------------------------------------------
OPERATIONS
Revenues:
Sales, net of excise duty and taxes 176,243 177,431
Investment income 2,483 2,677
-----------------------
Total revenues 178,726 180,108
Costs:
Operating costs excluding amortization (note 2) 81,925 80,079
-----------------------
Earnings before interest, income taxes,
Settlement expense, amortization and minority
interest 96,801 100,029
Amortization 2,741 3,929
Settlement expense (note 4) 415,000 -
Interest expense and adjustment to carrying
amount (note 9)
- Long-term debt 11,791 2,080
- Other 561 242
-----------------------
(Loss)/earnings before income taxes and minority
interest (333,292) 93,778
Income taxes (note 10)
- Current 30,824 36,996
- Future (528) 498
-----------------------
Total income taxes 30,296 37,494
-----------------------
(Loss)/earnings before minority interest (363,588) 56,284
Minority interest (note 15) (9,228) 22,456
-----------------------
(Loss)/earnings and comprehensive (loss)/earnings
for the period (354,360) 33,828
-----------------------
(Loss)/earnings per common share (note 7)
- Basic (5.20) 0.50
-----------------------
- Diluted (5.20) 0.49
-----------------------
RETAINED EARNINGS (DEFICIT)
Balance at beginning of period 116,115 86,645
Transitional adjustment on adoption of
new accounting policy (note 2) 756 344
-----------------------
Balance at beginning of period as restated 116,871 86,989
(Loss)/earnings and comprehensive (loss)/
earnings for the period (354,360) 33,828
-----------------------
(237,489) 120,817
Dividends paid:
Common Shares (23,833) (20,419)
(Q1 2009 - $0.35 per share)
(Q1 2008 - $0.30 per share)
-----------------------
Balance at end of period (261,322) 100,398
-----------------------
Rothmans Inc. and subsidiary companies (unaudited)
Unaudited Interim Consolidated Balance Sheets
As at As at
June 30 March 31
(in thousands of dollars) 2008 2008
-------------------------------------------------------------------------
ASSETS
Current Assets
Cash and cash equivalents 204,678 110,127
Short-term investments - 124,766
Accounts receivable 4,847 3,561
Inventories (note 2) 222,059 193,693
Prepaid expenses 3,352 1,765
Future income taxes 2,706 11,616
-----------------------
Total current assets 437,642 445,528
Property, plant and equipment 71,316 72,475
Future income taxes 15,765 6,327
Prepaid pension benefit cost 19,449 17,251
Other assets 1,079 1,263
-----------------------
545,251 542,844
-----------------------
LIABILITIES
Current Liabilities
Accounts payable and accrued liabilities 43,409 64,902
Excise and other taxes payable 90,806 74,228
Income taxes payable 5,899 33,405
Settlement expense (note 4) 196,000 -
-----------------------
Total current liabilities 336,114 172,535
Other long-term liabilities 7,054 10,996
Other employee future benefits 37,556 37,418
Long-term debt (note 9) 158,759 148,966
Settlement expense (note 4) 219,000 -
Minority interest in subsidiary company (note 15) - 8,724
-----------------------
758,483 378,639
-----------------------
Contingencies (note 17)
SHAREHOLDERS' EQUITY (DEFICIENCY)
Capital stock (note 11) 48,090 48,090
Retained earnings (deficit) (note 2 and 15) (261,322) 116,115
-----------------------
Total shareholders' equity (deficiency) (213,232) 164,205
-----------------------
545,251 542,844
-----------------------
Rothmans Inc. and subsidiary companies (unaudited)
Unaudited Interim Consolidated Statements of Cash Flows
Three months ended June 30
(in thousands of dollars) 2008 2007
-------------------------------------------------------------------------
Cash provided by (used in):
OPERATING ACTIVITIES
(Loss)/earnings for the period (354,360) 33,828
Adjusted for non-cash items:
Amortization of property, plant and equipment 2,741 3,929
Non-cash interest expense and adjustment to
carrying amount 10,309 237
Minority interest (9,228) 22,456
Future income taxes (528) 498
Loss on disposal of property, plant & equipment 8 17
Defined & other employee future benefits expense 1,881 1,691
Defined & other employee future benefits funding (3,941) (9,896)
Long-term incentive plan expense 1,541 2,703
Settlement expense (note 4) 415,000 -
-----------------------
63,423 55,463
Changes in non-cash operating working capital
(note 8) (68,215) (16,875)
-----------------------
(4,792) 38,588
-----------------------
INVESTING ACTIVITIES
Additions to property, plant & equipment, net (1,590) (917)
Proceeds on disposal (purchases) of short-term
investments, net 124,766 98,614
-----------------------
123,176 97,697
-----------------------
FINANCING ACTIVITIES
Dividends paid -
By the Company (23,833) (20,419)
By a subsidiary company to minority shareholder - (22,200)
Proceeds on issuance of common shares - 195
-----------------------
(23,833) (42,424)
-----------------------
Increase in cash and cash equivalents 94,551 93,861
Cash and cash equivalents at beginning of period 110,127 75,453
-----------------------
Cash and cash equivalents at end of period 204,678 169,314
-----------------------
Supplementary disclosures (note 8)
Rothmans Inc. and subsidiary companies (unaudited)
Notes to the Unaudited Interim Consolidated Financial Statements
(Tabular amounts are in thousands of dollars, except for share and per
share data or as otherwise indicated)
1. Summary of Significant Accounting Policies
The unaudited interim consolidated financial statements of Rothmans
Inc. (the "Company") have been prepared in accordance with Canadian
generally accepted accounting principles. The note disclosure in
these unaudited interim consolidated financial statements includes
only material changes from the disclosure found in the Company's
audited annual consolidated financial statements for the year ended
March 31, 2008. Therefore, these unaudited interim consolidated
financial statements and notes should be read in conjunction with
those statements. These unaudited interim consolidated financial
statements follow the same accounting policies as the Company's
audited annual consolidated financial statements, except as described
in Note 2.
2. Change in Accounting Policies
Effective April 1, 2008, the Company adopted The Canadian Institute
of Chartered Accountants (CICA) Handbook Section 3031, "Inventories".
Section 3031 replaces Section 3030, "Inventories" and introduces
changes to the measurement and disclosure of inventories. The new
standard requires inventories to be measured at the lower of cost or
net realizable value and also provides guidance on the appropriate
methods of determining cost and net realizable value. Under this new
accounting standard, the cost of inventories includes the cost of
purchase and/or subsequent manufacturing and other costs incurred in
bringing the inventories to their present location and condition.
The Company's inventories, comprised of leaf and other tobacco stock,
packaging materials and finished tobacco products for resale, are
valued at the lower of cost and net realizable value with cost being
determined on a first-in, first-out (FIFO) basis. The cost of
inventory includes all costs incurred in acquiring or manufacturing
the products along with the costs incurred in bringing the inventory
to its present location and condition. The Company records valuation
adjustments to its inventory and to cost of goods sold based on
estimates to reserve for product obsolescence and saleability.
The prospective adoption of this new standard resulted in changes in
the accounting for inventories and the recognition of a transitional
adjustment from the difference in the measurement of the opening
inventory. The transitional adjustment was recorded in opening
retained earnings as described below. Included in operating costs
excluding amortization for the three months ended June 30, 2008 is
$52.6 million of inventory recognized as an expense including
$0.4 million as a provision to adjust certain finished products to
net realizable value.
As permitted by the implementation of the new standard, the
comparative unaudited interim consolidated financial statements have
not been restated.
Transitional adjustment
-----------------------
The impact of adopting this standard as at April 1, 2008 is as
follows:
As at As at
March 31, April 1,
2008 Adjustment 2008
----------- ----------- -----------
Assets
Inventories 193,693 2,000 195,693
Liabilities
Income taxes payable 33,405 740 34,145
Minority interest 8,724 504 9,228
Shareholders' Equity
Retained earnings 116,115 756 116,871
Effective April 1, 2007, the Company adopted The Canadian Institute
of Chartered Accountants ("CICA") Handbook Section 1530,
"Comprehensive Income", Section 3855, "Financial Instruments -
Recognition and Measurement" and Section 3861, Financial Instruments
- Disclosure and Presentation." The prospective adoption of these
standards resulted in changes in the measurement, recognition and
presentation for financial instruments. As a result of adopting these
standards, transitional adjustments of $0.3 million have been
recorded in opening retained earnings as of April 1, 2007. There was
no change resulting from the adoption of these standards that
required the Company to record other comprehensive income. The
principal changes in the accounting for financial instruments due to
the adoption of these accounting standards are described in more
detail in the Company's audited annual consolidated financial
statements.
3. Recently Issued Accounting Pronouncements Not Yet Effective
Goodwill and Intangible Assets: Section 3064, which replaces,
"Goodwill and intangible assets" section 3062, and "Research and
development costs", Section 3450, establishes standards for
recognition, measurement and disclosure of goodwill and intangible
assets. This section applies to interim and annual financial
statements relating to fiscal years beginning on or after October 1,
2008. The Company is currently evaluating the potential impact that
the adoption of this new standard will have on the consolidated
financial statements.
International Financial Reporting Standards: The CICA Accounting
Standards Board has confirmed that International Financial Reporting
Standards ("IFRS") will be mandatory in Canada for financial
statements of profit oriented publicly accountable entities beginning
on or after January 1, 2011. The Company is evaluating the changes
arising from this convergence and is in the process of preparing a
plan to address accounting and reporting changes that may be
necessary to convert the Company's consolidated financial statements
to IFRS.
4. Settlement Expense
On July 31, 2008 the Company announced that an agreement had been
reached with the Government of Canada and the governments of all ten
provinces that resolved the RCMP's investigation relating to sales of
products exported from Canada by Rothmans, Benson & Hedges Inc.
("RBH") in the period 1989 - 1996 ("Settlement"). Under the terms of
the Settlement, payments expected to total $550 million are to be
made commencing in 2008 and over the next ten years. As part of the
Settlement, RBH entered a plea of guilty to a single count of
violating a provision of the Excise Act (Canada). The terms of the
Settlement are set out in the comprehensive agreement dated as of
July 31, 2008 entered into by RBH and the Company with Her Majesty
the Queen in Right of Canada and Her Majesty the Queen in Right of
each of the Provinces of Canada (the "Comprehensive Agreement") and
in the order of the Ontario Court of Justice issued on July 31, 2008.
The terms of the Settlement require the following payments to be
made:
- $100 million fine payable by RBH by no later than October 29,
2008;
- $50 million towards a new government Contraband Tobacco
Enforcement Strategy payable by RBH no later than December 15,
2008;
- $200 million payable by the Company over 10 years at a rate of
$20 million per year with the first payment to be made by December
31, 2009;
- an estimated $200 million payable by RBH, with the first payment
of $50 million to be made no later than December 31, 2008 and the
remainder scheduled to be paid over a 10-year period based on a
formula related to the revenue of RBH set out in the Comprehensive
Agreement.
As a consequence of the Settlement, RBH expects to repay its
currently outstanding 5.552% Senior Unsecured Bonds, series A in the
principal amount of $150 million (the "Bonds"). Although the Bonds
have a scheduled maturity date of December 21, 2011, the terms of the
Settlement may result in an event of default under the terms of the
trust indentures pursuant to which the Bonds were issued.
The Company recorded a Settlement expense of $415 million to
recognize the resolution of this contingency. The Settlement expense
and the obligation has been determined using a valuation technique
based on the present value of the estimated future cash payments
discounted at an average rate of 7.8% which represents a credit risk
adjusted rate for debt instruments of a similar duration to the
future cash payments required under the Settlement.
5. Financial Instruments
Effective January 1, 2008 the Company early adopted the new
accounting standards for Financial Instruments - Disclosure and
Presentation (CICA Handbook Sections 3862 and 3863). The following
summary is an update to the financial instrument disclosures made in
the Company's audited annual consolidated financial statements.
Financial Instruments designated as Other Liabilities
The Settlement obligation has been initially recognized at estimated
fair value (see note 4) and is designated as an other liability and
accounted for at amortized cost.
Liquidity Risk
As a result of the Comprehensive Agreement, RBH will prepay its long-
term debt and financing has been arranged to facilitate the repayment
(see note 9). The Company and RBH have significant cash resources and
generate cash flow from operations to meet their financial
liabilities and commitments. Based on historical earnings, cash flow
and the financing arranged, the Company and RBH expect to have
sufficient cash resources to fund their operations.
The table below summarizes the payment schedule for the Company's
liabilities as at June 30, 2008:
There-
2009 2010 2011 2012 2013 after Total
---------------------------------------------------------
Accounts
payable &
accrued
liabilities 43,409 - - - - - 43,409
Long-term
debt(x) - 158,759 - - - - 158,759
Settlement
expense(xx) 200,000 20,000 30,000 31,000 32,000 237,000 550,000
---------------------------------------------------------
243,409 178,759 30,000 31,000 32,000 237,000 752,168
---------------------------------------------------------
(x) Arrangements have been made to fund the repayment of the long-
term debt from the proceeds of a new revolving loan facility.
(xx) Represents actual and estimated cash payments.
Interest Rate Risk
On July 31, 2008 RBH entered into a $200 million floating rate credit
facility that is exposed to fluctuations in interest rates
(see note 9).
Sensitivity Analysis
Assuming all other variables remain constant, a 1% decrease in the
discount rate applied to the estimated future cash payments
associated with the Settlement obligation would increase the
Settlement expense and obligation by $13 million. A 1% increase in
the discount rate would decrease the Settlement expense and
obligation by $12 million.
Since $150 million of the future cash payments associated with the
Settlement obligation is dependant upon future revenues generated by
RBH, the estimated fair value of the Settlement obligation could
change in subsequent periods based on actual results and changes in
estimates of future revenues. Assuming all other variables remain
constant, a 1% increase or decrease in the estimated future revenues
of RBH would increase or decrease the Settlement expense and
obligation by $1 million.
6. Management of Capital
Effective January 1, 2008, the Company early adopted the new
accounting standards for Capital Disclosures (CICA Handbook section
1535).
As a result of recording the expense for the Settlement reached as
described in note 4, the Company has incurred a substantial loss for
the quarter that has resulted in a shareholder deficiency as at June
30, 2008. Management believes the Company's existing cash resources,
cash flows from operating activities and the financing arranged to
repay the senior unsecured long-term debt are sufficient to meet the
Company's objectives in managing capital.
7. Earnings per Share
Earnings per common share is calculated based on the weighted average
number of common shares outstanding, the dilution being due to issued
common share options.
Basic Diluted
---------------------------------------------------------------------
Three months ended:
June 30, 2008 68,095,608 68,095,608
June 30, 2007 68,048,241 68,474,564
Since the impact of the dilutive options would be to decrease the
loss per share, they are excluded for purposes of calculating diluted
loss per share for the period ended June 30, 2008.
8. Supplementary Cash Flow Disclosures
a) Change in non-cash operating working capital:
June 30 June 30
2008 2007
----------------------
Accounts receivable (1,286) 556
Prepaid expenses (1,587) (1,374)
Inventories (27,106) (16,096)
Other assets 184 12
Accounts payable and accrued liabilities (27,492) (12,670)
Excise and other taxes payable 16,578 28,653
Income taxes payable (27,506) (15,956)
----------------------
(68,215) (16,875)
----------------------
----------------------
b) Other:
2008 2007
----------------------
Income taxes paid 59,070 52,951
Interest paid:
- Long-term debt 4,164 4,164
- Other 24 21
9. Long Term Debt
As a consequence of the Settlement as described in note 4, RBH
obtained a credit facility as described below in order to fund any
required repayment of its currently outstanding 5.552 % Senior
Unsecured Bonds, Series A (the "Bonds") plus a make-whole premium of
approximately $9.7 million relating to the loss of interest between
the estimated repayment date and the original maturity date of
December 21, 2011. As a result, RBH revised its estimate of future
cash flow payments under the Bonds to include the make-whole premium
and adjusted the carrying amount of the Bonds by recognizing a charge
of $9.7 million.
On July 31, 2008, RBH entered into an agreement with JPMorgan Chase
Bank, N.A. to provide a $200 million unsecured one-year revolving
loan facility bearing interest at the Canadian Deposit Offering Rate
plus 2%. The proceeds from this facility will be used to fund the
principal repayment, the make-whole premium and accrued interest on
the Bonds and for working capital purposes. After the facility is
outstanding for more than 75 days, additional fees relating to the
bank's syndication of the loan may be payable.
Given that financing arrangements that mature more than one year from
June 30, 2008 have been made to repay the Bonds and the make-whole
premium, these amounts have been classified as long-term debt at June
30, 2008.
Additionally, a $30 million credit facility with another financial
institution has been reduced to $5 million until October 31, 2008 at
which point it will be terminated.
10. Income Taxes
The following table reconciles income taxes calculated at corporate
income tax rates (including surtaxes and manufacturing and processing
credits) with the income tax provision:
June 30, June 30,
2008 2007
----------------------
(Loss)/earnings before income taxes and
minority interest (333,292) 93,778
Income tax provision based on corporate
income tax rates (118,574) 37,494
Non-deductible settlement expense 148,870 -
----------------------
30,296 37,494
----------------------
Under the terms of the Comprehensive Agreement as described in note
4, neither the Company nor RBH are permitted to deduct any of the
Settlement expense payments from income in determining their
respective income tax liability to government authorities.
11. Capital Stock
Authorized: An unlimited number of common shares
Issued: 68,095,608 (March 31, 2008 - 68,095,608) common shares
June 30 March 31
2008 2008
----------------------
Balance at beginning of period, April 1 48,090 47,533
Issuance of shares - 557
----------------------
Balance at end of period 48,090 48,090
----------------------
In the first quarter of fiscal 2009, no shares (2008 - 25,800) were
issued due to the exercise of stock options.
12. Share Option Plan
A summary of the status of the Company's employee stock option plan
as at the periods ended June 30, 2008 and June 30, 2007 and changes
during the periods ending on those dates are presented below:
June 30, 2008 June 30, 2007
---------------------------------------------------------------------
Weighted Weighted
average average
exercise exercise
Options Shares price ($) Shares price ($)
---------------------------------------------------------------------
Outstanding -
Beginning
of period 1,250,800 14.360 1,308,400 14.291
Exercised - - (25,800) 10.878
---------------------------------------------------------------------
Outstanding -
End of period 1,250,800 14.360 1,282,600 14.359
---------------------------------------------------------------------
Options exercisable
at period end 1,250,800 14.360 1,282,600 14.359
---------------------------------------------------------------------
Under the current share option plan as at June 30, 2008, a total of
181,800 (2008 - 181,800) common shares were issuable. Given the
limited number of common shares available for issuance under the
Option Plan, the annual grant of options was discontinued effective
fiscal 2006. No options were forfeited during the period.
Under the terms of the support agreement outlined in note 18, the
Company will amend the current plan to permit holders of options to
either conditionally surrender their options in exchange for a cash
payment from the Company equal to the amount by which the offer price
of $30.00 per share exceeds the exercise price or roll their
entitlements over into a similar plan offered by PMI.
The following table summarizes information about stock options
outstanding as at June 30, 2008:
Weighted
average
remaining
Number contractual Number
Range of exercise price outstanding life exercisable
---------------------------------------------------------------------
$8.825(1) 3,000 2.1 3,000
$11.500(1) 136,000 2.9 136,000
$12.320(2) 308,200 4.9 308,200
$14.080(1) 261,400 3.3 261,400
$16.125(1) 237,000 3.9 237,000
$16.620(2) 305,200 5.9 305,200
--------------------------------------------------------------------
1,250,800 1,250,800
--------------------------------------------------------------------
(1) Entitled upon exercise to a payment of $4.00 per share (amount
equal to special dividends paid since date of option grant).
(2) Entitled upon exercise to a payment of $1.50 per share (amount
equal to special dividends paid since date of option grant).
13. Employee Future Benefit Expenses
The Company's defined benefit pension plan and other benefits
expenses are as follows:
Three months ended June 30
2008 2007
---------------------------------------------------------------------
Defined benefit plan expenses
Pension benefit plans 1,030 811
Other benefits 851 880
---------------------------------------------------------------------
1,881 1,691
---------------------------------------------------------------------
---------------------------------------------------------------------
The Company's defined contribution pension plan expenses in the
quarter ended June 30, 2008 were $1.0 million (2007 - $1.0 million).
14. Seasonality
Over the past several fiscal years, the period between April and
September has demonstrated stronger industry shipments than the
period between October and March. This seasonality is likely due to
smoking restrictions that are causing consumption variations between
summer and winter seasons.
15. Minority Interest
As a result of the Settlement expense described in note 4, the
Company's 60% owned subsidiary company, RBH, has a shareholder
deficiency of $209 million. When a subsidiary in which there is a
minority interest has a shareholder deficiency, none of the losses
are charged against the consolidated financial statements of the
parent company under generally accepted accounting principles unless
there is an irrevocable commitment to fund those losses. Included in
the loss at RBH is $84 million attributable to the minority interest
that has not been recognized as an asset in the unaudited
consolidated financial statements. Subsequent earnings of RBH will be
allocated entirely to the Company's interest in RBH until the
previously absorbed losses are recovered.
16. Commitments
In the normal course of business, the Company and RBH have
commitments in respect of capital expenditures, operating lease and
other obligations and purchases of tobacco.
In addition, the Company and RBH have obligations as a result of the
Comprehensive Agreement as described in note 4, in which payments
expected to total $550 million are to be made commencing in 2008 and
over the next ten years.
The following table summarizes the payments due after June 30, 2008
for the Company's commitments:
2009 222,326
2010 23,153
2011 33,019
2012 33,645
2013 and thereafter 270,113
--------
582,256
--------
--------
17. Litigation, Claims and Contingencies
The Company and RBH are subject to a number of claims and potential
claims, investigations and legislation, the nature and extent of
which has been described in note 16 of the audited annual
consolidated financial statements of the Company for the year ended
March 31, 2008. Other than as described in note 4 and below, there
have been no developments of a material nature during the fiscal year
to date concerning these matters.
As previously disclosed, in January 2001 the Province of British
Columbia initiated a lawsuit in the Supreme Court of British Columbia
against RBH, the Company and numerous other Canadian and
international tobacco companies and various tobacco trade
associations seeking unspecified damages in an amount to cover the
costs that allegedly have been, or will be, incurred by the
Government of British Columbia in providing health care benefits to
British Columbia residents who have allegedly suffered smoking-
related illnesses. The action, brought pursuant to the Tobacco
Damages and Health Care Costs Recovery Act (British Columbia), is
proceeding and the trial is currently scheduled for the fall of 2010.
In March 2008, the federal government brought a motion seeking to
strike out a third party notice which would make it a party to the
lawsuit. The motion was allowed in April 2008. The Canadian tobacco
companies are appealing this decision, and the appeal should be heard
in early 2009.
Additional information concerning legal matters affecting the Company
and RBH are contained in the Company's filings with securities
regulatory authorities including the Company's 2008 Management's
Discussion and Analysis and Notes to Consolidated Financial
Statements, the 2008 Annual Information Form (in particular under
"Legal Proceedings"), Material Change Report dated July 31, 2008 and
the Comprehensive Agreement which can be accessed at www.sedar.com or
on the Company's website at www.rothmansinc.ca.
18. Subsequent Event
Subsequent to June 30, 2008, the Company entered into a definitive
support agreement with Philip Morris International Inc. (PMI).
Pursuant to the agreement, an indirect wholly-owned subsidiary of PMI
has made the Offer to all Rothmans Inc. shareholders to purchase all
of the outstanding common shares of the Company for $30.00 per share
in cash. Under the terms of the agreement, the Company has agreed to
co-operate and support the offer. PMI's obligation to acquire shares
is subject to certain conditions including the receipt of certain
regulatory approvals. In the event that the transaction is not
completed, PMI will pay the Company a termination fee of $81.7
million. In certain circumstances where the agreement is terminated,
including in the event of a superior offer received from a third
party which the Company accepts, the Company will be required to pay
PMI $40.9 million. If the agreement is terminated as a result of a
breach or failure to perform obligations by either the Company or
PMI, the other party is entitled to an expense reimbursement payment
of $20.4 million. Under the terms of the support agreement, the Board
of Directors of the Company has agreed to suspend the regular
quarterly dividend historically paid in September.