Annual Results
Fiscal Year Ended
March 31, 2005
Trading: TSX: ROC
TORONTO, May 20 /CNW/ - Rothmans Inc. today reported results for the
fiscal year ended March 31, 2005. The Company also announced that the Board of
Directors has declared a special dividend of $1.50 per share in addition to
the regular quarterly dividend of $0.30 per share.
Rothmans' earnings for the year ended March 31, 2005 were $93.0 million,
or $1.38 basic earnings per share compared with $90.3 million, or $1.34 basic
earnings per share in fiscal 2004.
Sales at 60%-owned Rothmans, Benson & Hedges Inc., net of excise duty and
taxes, were $636.8 million for 2005 compared with $620.1 million a year
earlier, an increase of $16.7 million. The increase was primarily due to
higher volumes in the cigarette price category, combined with increased prices
across all product categories.
Investment income was $4.2 million for fiscal 2005 compared with
$3.8 million a year ago as a result of higher average cash balances during the
year.
RBH's EBITDA margin increased to 43.8% compared with 43.4% in the
previous year. The increase in margin was due to increased sales volumes of
price category cigarettes, higher prices across all product categories,
reduced tobacco leaf costs and reduced sales and marketing expenditures which
more than offset reduced premium cigarette and fine cut volumes.
RBH's share of the total composite market increased to 29.5% compared
with 24.4% in 2004 as a result of increases in both the premium and price
categories. Its share of the premium cigarette market increased to 15.5%
compared with 14.6% the previous year due to the reduced size of the premium
market as RBH's competitors repositioned brands from the premium to the price
category.
Although RBH increased its share of each sub-category, RBH's share of the
total price category was 46.3% in fiscal 2005 compared with 47.9% in the prior
year as a result of the change in relative volume contribution from price
category cigarettes and fine cut products to the total price category. RBH's
share of the domestic price cigarette category was 41.5% for the year, up from
39.4% in 2004. Share of the domestic fine cut market was 59.6% versus 57.6%.
During 2005, the Company paid dividends of $70.9 million, or $1.05 per
share on a post-split basis compared with $54.6 million, or $0.8125 per share,
the previous year.
"Rothmans continued to increase value for its shareholders in fiscal
2005" said John Barnett, President and Chief Executive Officer of Rothmans
Inc. "Rothmans, Benson & Hedges improved its performance in all key areas last
year, with higher sales, earnings and market share as the company maintained
its leading position in the cigarette price category. This translated into
improved value for shareholders of Rothmans Inc. as the company increased the
regular quarterly dividend and effected a two-for-one stock split."
Fourth Quarter
For the fourth quarter of fiscal 2005, Rothmans' earnings were
$17.3 million, or $0.26 basic earnings per share, approximately even with last
year's $17.2 million, or $0.26 per share on a post-split basis.
Sales, net of excise duty and taxes, at Rothmans, Benson & Hedges, were
$144.2 million compared with $136.5 million last year. Investment income at
Rothmans Inc. was $1.3 million compared with $1.1 million.
RBH's EBITDA margin was 37.4% in the quarter compared with 36.8% in the
same period last year.
Outlook
"We expect continued quarter-to-quarter volatility in the market as a
result of buying patterns, high taxes and the continued presence of
contraband." said Mr. Barnett. "We will continue to monitor growth of the
contraband market and expect it to continue to adversely impact legitimate
industry stakeholders including RBH. Despite this, we have demonstrated our
ability to deliver good results in a challenging environment."
Dividends declared
The Board of Directors of Rothmans Inc. declared a special dividend of
$1.50 per share in addition to the regular quarterly dividend of $0.30 per
share. These dividends are payable on June 17, 2005 to shareholders of record
at the close of business on June 3, 2005.
Analyst Conference Call and Webcast
Rothmans Inc. management will hold a conference call with analysts to
discuss the fourth quarter and full year results at 9:30 a.m. Toronto time on
Friday, May 20, 2005. In order to listen to the conference call, shareholders
are invited to call 1-800-387-6216.
The call will also be webcast through the Company's investor website,
www.rothmansinc.ca. At the completion of the conference call, a recording will
be available until May 27 by calling 1-800-408-3053 and entering reservation
number 3151488. The recording can also be accessed through the investor
website.
Media are invited to listen to the call and to contact John McDonald at
(416) 442-3660 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 over 790 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.
REPORT TO SHAREHOLDERS FOR THE FISCAL YEAR ENDED MARCH 31, 2005
To Our Shareholders
We are pleased to report that Rothmans Inc. is continuing to deliver
increased shareholder value. In the year ended March 31, 2005, your Board of
Directors increased the Company's regular quarterly dividend twice. These
increases came on the strength of growth in revenues, earnings, cash flow and
market share, the key metrics of performance at the Company's 60%-owned
subsidiary Rothmans, Benson & Hedges Inc. (RBH). Continued appreciation in the
share price led to the Board decision to implement a two-for-one stock split,
effected by way of a stock dividend, effective March 4, 2005.
RBH's success has come as a result of its leadership in the cigarette
price category. In the two years following the launch of Number 7 as a price
brand, RBH has significantly grown its market share, in contrast to past
trends. This success is very encouraging, given the many challenges currently
facing the industry.
We are seriously concerned by the mounting evidence of increased
contraband sales in major Canadian markets, including both smuggled and
counterfeit products. Increased consumption by Canadians of non-taxed or
partially taxed contraband products widely referred to in media reports has an
adverse effect on the legitimate tax-paid market and all of its participants.
RBH, as well as wholesalers, retailers and provincial and federal governments
are all impacted detrimentally by the sale of contraband tobacco products.
Continued Strong Results
RBH increased net sales by $16.7 million or 2.7% to $636.8 million for
the year, on the strength of increased volumes in the cigarette price category
and higher prices, which more than offset volume declines in premium
cigarettes and fine cut. Investment income increased slightly to $4.2 million
as a result of higher average balances of cash and short-term investments.
Operating costs increased by 1.9% to $362.6 million due to increased
product variable costs associated with higher volumes, offset somewhat by
lower selling and marketing expenditures.
Net earnings increased by 3.0% to $93.0 million versus $90.3 million a
year ago. Adjusted to reflect the stock split, basic earnings per share rose
to $1.38 in the year from $1.34 a year ago, or to $1.37 from $1.34 on a fully
diluted basis.
Rothmans Inc. has demonstrated consistent profitability for over a
decade, a record which cannot be claimed by many other companies. This
profitability is backed up by solid positive cash flow, which is ultimately
paid out to the Company's shareholders by way of dividend. Over the past year,
we have paid to our shareholders cash dividends of $2.10 per share or $1.05
per share reflecting the stock split. At the time this report was completed,
our regular annualized dividend of $1.20 per share represented a dividend
yield of approximately 5%.
Even with significant dividend distributions to its shareholders,
Rothmans Inc. continues to accumulate cash and held approximately $2.84 per
share in cash and investments as at March 31, 2005. Subsequent to the fiscal
year end, the Board of Directors declared a special dividend of $1.50 per
share, payable on June 17, 2005 to shareholders of record at the close of
business on June 3, 2005.
The Board continues to believe that shareholder interests are best served
by ensuring that Rothmans Inc. is in a position to act on acquisition
opportunities that are accretive and which may become available due to the
worldwide trend to industry consolidation. We continue to monitor these trends
and opportunities and assess our position with the ultimate goal of maximizing
shareholder value.
Growing Market Share and Profitability at Rothmans, Benson & Hedges Inc.
Increased profitability at Rothmans Inc. is the result of solid
performance by RBH, which increased its share of the total reported domestic
tobacco market to 29.5% versus 24.4% in the previous year. Increases in RBH's
share reflect its success in the cigarette price category, driven by the
leading performance of its Number 7, Canadian Classics and Mark Ten trade-
marks. Improved performance in the cigarette price category combined with
price increases has more than offset the volume declines experienced in the
premium cigarette and fine cut categories.
The past year was marked by an increase in the rate of decline for
reported domestic sales volume. According to Statistics Canada data, total
reported domestic sales declined by 6.6% year over year versus an average
annual decline rate of 4.3% experienced in the five previous years. We believe
this decline rate is inflated by unreported sales of contraband product.
In addition, the product mix within the industry has continued to shift,
as a substantial number of consumers have left their traditional premium
brands for offerings in the cigarette price category. The share of the total
industry tobacco market attributed to all price category cigarettes more than
doubled to over 33% in fiscal 2005 versus less than 16% in the prior year.
Premium cigarette shipments fell to less than 55% of the total market last
year, from about 70% the previous year, while shipments of fine cut dropped to
12% from nearly 14% in the prior year.
RBH was the first of the three major manufacturers to move into the
cigarette price category and we believe that its three participating trade-
marks, Number 7, Canadian Classics and Mark Ten, are well positioned for
future strength and continued performance.
In fiscal 2005, RBH's EBITDA margin increased slightly to 43.8% versus
43.4% in the preceding year. Increasing total EBITDA margins even slightly, in
a market marked by a shift towards lower margin products, is an indication of
RBH's success in implementing its strategies and solid cost containment
measures.
Seeking Rational Regulation
RBH acknowledges the health risks which have been associated with smoking
and believes that governments have an important role to play in discouraging
people from smoking and ensuring that youth do not have access to tobacco
products. RBH believes that effective tobacco control is the product of
constructive dialogue among governments, manufacturers, distributors,
retailers and consumers and, to that end, RBH continues to seek opportunities
to work co-operatively with governments.
Despite continued efforts to secure a rational and inclusive dialogue
with governments, RBH has had only limited success. Given the highly
politicized environment which characterizes tobacco control, RBH is often
faced with governments that neither desire nor permit the scope of dialogue
required to ensure effective regulation. The result is regulation which
neither meets the legislative mandate nor respects the rights of those
affected.
RBH continues to be concerned with tobacco taxation policy. While the
past fiscal year has seen a relatively more moderate approach to tobacco tax
increases, we continue to see the adverse impact of current high levels of
taxation. Depending on the province and the product, more than 80% of the
consumer price of a pack of cigarettes can represent tax. We believe that
contraband is a large and growing problem for all Canadians and that this
contraband market is fueled by the current high tobacco taxation rates in
Canada.
High taxes have been shown in Canada and elsewhere to lead to market
turmoil characterized by smuggling, counterfeiting, illegal manufacturing,
increased theft and other criminal activities. These activities increase
enforcement costs, place the employees of manufacturers, wholesalers and
retailers at risk and fail to advance governments' stated policy objectives of
reducing consumption, enhancing tax revenues and restricting youth access to
tobacco.
Delivering Value
RBH has a dedicated team of employees who are focused on delivering
against their stated TLC objectives: Teamwork, Leadership and Commitment to
Win. We thank RBH employees for their outstanding efforts and take pride in
the fact that, once again, RBH has been recognized as one of the best
workplaces in the country. For the second year in a row, RBH placed third out
of the more than 125 companies reviewed in a major national study. RBH
continues to enjoy excellent unions relations and it is pleased to have
recently concluded contract negotiations with the unions representing our
Quebec and Brampton manufacturing employees. The resulting collective
agreement will contribute to another five years of labour stability.
The RBH management team has been successful in developing innovative
strategies that both anticipate and respond to the changing marketplace.
Careful planning and execution has resulted in higher revenues and higher
earnings.
We continue to appreciate the contribution of our Board of Directors
whose knowledge and advice strengthen Rothmans. Their dedication to good
governance practices ensures that shareholders' interests remain the Company's
first priority. We are pleased that once again, the Company was highly ranked
in the Globe and Mail's annual review of governance practices among TSX-listed
companies.
On behalf of the Board and the employees of Rothmans and RBH, we thank
you - the shareholders - for your continued support. You can be confident that
we will continue to be focused on generating the greatest possible long-term
return on your investment.
Joe Heffernan
Chairman of the Board
John Barnett
President and Chief Executive Officer
Management's Discussion and Analysis
of Financial Results for March 31, 2005
---------------------------------------
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 year and
fiscal quarter ended March 31, 2005 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 year ended March 31, 2005. 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 May 19, 2005.
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 financial statements.
As of the financial year ending March 31, 2005, an evaluation was carried
out under the supervision of and with the participation of the Company's
management, including the Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the Company's disclosure controls and procedures.
Based on that evaluation, the Chief Executive Officer and Chief Financial
Officer concluded that the design and operation of these disclosure controls
and procedures were effective as of March 31, 2005 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.
Forward Looking Statements
Certain statements contained herein, including MD&A, constitute "forward-
looking statements". Words such as "plans", "intends", "outlook", "expects",
"anticipates", "estimates", "believes", "should" and similar expressions are
intended to identify forward-looking statements. Forward-looking statements
are based on current expectations and entail various risks and uncertainties.
These risks and uncertainties include government claims and potential claims,
product liability claims, price category pressure on overall cigarette
margins, declining consumer consumption and dependence on price increases,
changes in legislation and regulation, changes in taxation, new product
standards, dependence on the domestic tobacco business, fluctuating wholesaler
purchasing patterns and competition. These risks and uncertainties could cause
or contribute to actual results that are materially different from those
expressed or implied. 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.
Terminology used in this MD&A
Throughout this MD&A, "Rothmans" and "the Company" refer to Rothmans
Inc., "RBH" refers to Rothmans, Benson & Hedges Inc., which is 60%-owned by
Rothmans Inc., and "EBITDA margin", a key measure of the Company's operating
performance, refers to "earnings before interest, taxes, depreciation and
amortization" as a percentage of "sales, net of 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, taxes
and capital spending. EBITDA margin is a non-GAAP financial measure that does
not have any standardized meaning prescribed by GAAP. It is therefore unlikely
to be comparable to similar measures presented by other companies. The "recent
quarter" refers to the three months ended March 31, 2005, and "prior quarter"
refers to the three months ended December 31, 2004. "Fiscal 2005" or "recent
fiscal year" refers to the fiscal year ended March 31, 2005 and other similar
references to a fiscal year (e.g., fiscal 2004) refer to the fiscal year then
ended on March 31 (e.g., March 31, 2004).
"The three major manufacturers" or "three majors" refers to RBH, Imperial
Tobacco Canada Limited (ITL) and JTI-MacDonald Corp. (JTI). "Premium
cigarettes" refers to tailor-made cigarettes sold at premium retail price,
"cigarette price category" 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-proportioned tobacco
sticks). "Reported industry" is based on information reported by Statistics
Canada and Company estimates and includes, in addition to the information
reported by the three major manufacturers, information supplied by smaller
regional manufacturers.
Outstanding Shares
As at March 31, 2005, there were 67,572,008 common shares outstanding or
69,346,408 shares on a fully diluted basis. See notes 8 and 9 to the unaudited
consolidated financial statements.
Company Overview, Core Business and Strategy
Rothmans participates in the Canadian tobacco industry through its 60%
ownership interest in RBH. The remaining 40% of RBH is owned by FTR Holding
S.A. of Switzerland, an affiliate of Altria Group, Inc. Rothmans is the only
widely held Canadian public company with interests exclusively in the tobacco
industry. Its shares are listed on the Toronto Stock Exchange under the symbol
ROC. Rothmans' financial results reflect those of RBH after minority interest,
plus income generated by the Company's cash reserves, less the costs
associated with operating Rothmans as a public company.
RBH is the second largest tobacco company in Canada with a 29.5% share of
the reported domestic composite market in the recent fiscal year and a leading
position in the price category. RBH competes in all categories of the Canadian
tobacco market including premium cigarettes, price category cigarettes and
fine cut. RBH also competes in the cigar, pipe tobacco, duty free and export
categories which in aggregate represented 6.5% of RBH's net sales revenues in
the recent fiscal year.
RBH has continued to grow both market share and profitability in the face
of a declining market and a reduction in overall industry profitability. RBH
management believes that the challenging nature of the tobacco industry will
continue. While success in dealing with future challenges is not assured,
management believes that the culture, strategy, product depth and positioning
and business processes established at RBH provide a strong platform from which
to respond.
Rothmans also continues to seek opportunities for growth through an
international tobacco acquisition and continues to assess alternative
strategies for utilizing the cash provided by RBH. Based on an extensive
review of international tobacco markets, the Company's acquisition strategy
centres on the continued trend to industry consolidation, and is therefore
dependent on the timing of acquisition opportunities initiated by third
parties. Rothmans has yet to identify an available opportunity which meets its
criteria. Rothmans will continue to reassess its cash reserve position
periodically, in the context of its stated acquisition strategy.
Industry Overview
The Canadian tobacco market is composed principally of consumers who
choose between premium cigarettes, price category cigarettes and fine cut
tobacco offerings. There is also a smaller category of consumers who choose
pipe tobacco, cigars and specialty products. Premium cigarette consumers are
principally served by the three major manufacturers, offering products in
varying lengths, package formats and tobacco blend characteristics under a
variety of trade-marks. The price category includes price category cigarettes
and fine cut products. Price category cigarette consumers are offered products
by the three majors and a number of regional manufacturers. Increasing numbers
of consumers seeking tailor-made cigarette products at less than premium
pricing have led to continued growth of the price category over the past year.
Fine cut product offerings include loose tobacco, high-yield tobacco and a
variety of pre-proportioned tobacco stick products. This category offers a
lower-priced, high quality alternative to the consumer who is willing to
assemble the product prior to consumption.
Total reported industry domestic sales volumes for all tobacco products
decreased 6.6% in both the quarter and fiscal year ended March 31, 2005 versus
the comparable periods in the prior fiscal year. This represents an increase
from the trend established over the previous five years where an average
decline of 4.3% was experienced. The increasing presence of contraband product
in the domestic market is believed to have been a key factor in the increased
rate of decline in reported domestic industry sales volumes experienced in
fiscal 2005.
Recent quarter total industry domestic sales volumes of 8.5 billion
equivalent sticks were 12.1% lower than in the prior quarter. Both normal
seasonality and increases in the presence of contraband product are believed
to have contributed to the decline.
In large part due to the continued growth of the cigarette price
category, total reported domestic premium cigarette volumes declined by 27.6%
and 26.3% in the fiscal year and quarter ended March 31, 2005 versus the same
periods of the prior year. RBH estimates that premium cigarettes represented
54.6% of total reported domestic industry shipments during the recent fiscal
year versus 70.4% in fiscal 2004 and 51.9% in the recent quarter versus 65.7%
in the quarter ended March 31, 2004.
The price category continued its growth in the recent quarter, and
represented 45.4% of the Canadian reported domestic tobacco market in fiscal
2005 versus 29.6% in fiscal 2004 and 48.1% in the recent quarter versus 34.3%
in the quarter ended March 31, 2004. Fine cut products represented 12.0% of
the total reported domestic tobacco market in the recent fiscal year versus
13.8% in fiscal 2004 and 12.1% in the recent quarter versus 14.0% in the
quarter ended March 31, 2004. Price category cigarettes are estimated to have
represented 33.4% of the total reported domestic tobacco market during the
fiscal year versus 15.7% in fiscal 2004 and 36.1% in the recent quarter versus
20.3% in the quarter ended March 31, 2004. The growth of the price category
during fiscal 2005 is attributable to products previously launched into the
cigarette price category by the three major manufacturers.
Shown below is a comparative summary of domestic shipments of tobacco
products for the fiscal years ended March 31, 2005 and March 31, 2004.
<<
Canadian Domestic Tobacco Shipments
(in billions of sticks and equivalents)
-------------------------------------------------------------------------
For the year ended March 31
-------------------------------------------------------------------------
2005 2004
Three Reported Three Reported
RBH Majors Industry RBH Majors Industry
-------------------------------------------------------------------------
Premium cigarettes 3.3 21.3 21.3 4.3 29.3 29.3
Price category
Cigarettes 5.4 10.7 13.0 2.6 4.1 6.6
Fine cut 2.8 4.6 4.6 3.3 5.8 5.8
-----------------------------------------------------
Total Price Category 8.2 15.3 17.6 5.9 9.9 12.4
-------------------------------------------------------------------------
Total 11.5 36.6 38.9 10.2 39.2 41.7
-------------------------------------------------------------------------
-------------------------------------------------------------------------
RBH Market Share
Premium cigarettes 15.5% 15.5% 14.6% 14.6%
Price category 53.3% 46.3% 60.1% 47.9%
Composite markets 31.4% 29.5% 26.0% 24.4%
This table includes information relating to domestic shipments only
(i.e., excluding duty-free and export sales). Reported industry export
and duty free shipments for the fiscal year were: premium cigarettes -
0.5 billion sticks in fiscal 2005 and 0.6 billion sticks in fiscal 2004;
price category cigarettes - 2.7 billion sticks in fiscal 2005 and
1.7 billion sticks in fiscal 2004.
Reported industry volumes continue to be influenced by the evolution of
the cigarette price category which is affecting the relative contributions of
premium cigarettes versus price category cigarettes and fine cut products.
Other factors affecting industry shipments include:
- fluctuations in wholesaler buying patterns as a result of anticipated
tax and manufacturer price increases. Swings in wholesaler purchasing
patterns motivated by the timing of tax and price increases,
seasonality and other factors are anticipated to continue to have a
significant effect on quarter-to-quarter comparisons in the future;
- the presence of contraband and counterfeit products. High taxes and
the potential for future taxation increases are expected to
contribute to probable increases in the presence of contraband
product in the domestic market; and
- continued declines in consumer incidence and consumption of tobacco
products.
Key Performance Drivers
The key performance drivers for RBH, and by extension Rothmans, are:
- the incidence and consumption trends for tax-paid tobacco products in
the Canadian marketplace;
- manufacturer pricing by product category;
- market share; and
- opportunities to reduce costs.
RBH's revenue model and its associated strategies for increasing
profitability and shareholder value are driven by the tobacco volume sold and
the price charged for that volume. RBH uses reported industry volume in
equivalent sticks by product category, market share by brand and margin per
equivalent stick as the measures of its key drivers.
Volume trends provide key strategic information on market developments
leading to decisions on product launches, line extensions, and price increases
that have driven volume growth, market share growth and increasing
profitability over the past several years.
Tobacco consumption continues to be a significant socio-political issue,
giving rise to significant pressures on the industry, tobacco product
consumers and more recently on tobacco growers and the hospitality industry.
As a result, there are many factors affecting the volume of tobacco sold and
consumed. These factors include: the legal and regulatory environment related
to tobacco, federal and provincial tobacco taxation policies and escalating
restrictions on where tobacco can be consumed. RBH markets only to adults who
choose to smoke, does not market to youth, does not encourage youth to smoke
or non-smokers to take up smoking and does not discourage smokers from
quitting.
RBH regularly monitors its pricing position, by category. This position,
along with product category gross margin, provides profitability information
used to drive strategic pricing decisions as well as to support sales and
marketing directions.
Rothmans Inc. Consolidated Financial Summary (Unaudited)
(in millions of dollars, except per share data)
2003 2004 2005
Year ended March 31 $ $ $
-------------------------------------------------------------------------
Operations
Sales, net of excise duty and taxes 575.5 620.1 636.8
Cash flows from operations 137.3 225.6 162.0
Earnings before minority interest 144.9 151.1 155.6
Earnings for the year 86.7 90.3 93.0
Dividends paid 217.9 54.6 70.9
Financial position
Net working capital 242.1 273.2 286.8
Total assets 430.0 496.8 528.5
Total long-term liabilities 188.5 183.5 186.3
Shareholders' equity 130.5 168.5 193.7
Per common share(x)
Earnings - basic 1.30 1.34 1.38
Earnings - diluted 1.29 1.34 1.37
Dividends paid 3.25(1) 0.8125 1.05
Shareholders' equity 1.96 2.51 2.87
(1) 2003 dividends paid includes special dividend of $2.50 per share.
(x) Prior years have been adjusted for the two-for-one stock split
effective March 4, 2005.
Results at Rothmans, Benson & Hedges Inc.
In the year ended March 31, 2005, RBH shipped a total of 11.5 billion
equivalent sticks into the domestic market, a 12.7% increase over the prior
year. RBH's share of the total domestic composite tobacco market of 29.5% for
the fiscal year ended March 31, 2005 represented an increase from the 24.4% in
the fiscal year ended March 31, 2004. This increase is attributable to
increased shipments of RBH price category cigarettes, which more than offset
declines in premium cigarette and fine cut shipments.
Success in the premium category, which is a significant driver of
profitability for RBH, remains dependent on the strength of RBH's portfolio of
brands. Consumers buy premium cigarettes based on a number of factors
including brand attributes and the consistent product quality that the
manufacturer provides to the consumer. Brands within the tobacco industry have
a long product cycle. In recognition of this, RBH continues to focus its
marketing and sales efforts on the top six premium brands that account for
more than 93.9% of its premium cigarette sales. Over the last year, RBH has
continued to leverage its retail, bar and wholesaler programs in support of
the Benson & Hedges, Craven A, Rothmans, Belvedere, Belmont Milds and Viscount
brands, which are central to the targeted premium brand strategy. Regulatory
constraints continue to limit RBH's ability to communicate with adult smokers.
RBH's strategy for long-term success in the premium cigarette category is to
focus on growing brands by investing in retail availability programs designed
to be compliant with applicable regulations.
RBH's premium cigarette volumes declined 22.9% in fiscal 2005 and 21.2%
in the recent quarter as compared to the same periods in the prior year. RBH's
domestic market share of premium cigarettes was 15.5% in fiscal 2005 versus
14.6% in fiscal 2004 and 15.2% in the recent quarter versus 14.2% in the
quarter ended March 31, 2004. The increase in the recent fiscal year market
share can be attributed to the repositioning by RBH's competitors of certain
of their brands from the premium to price category, thus reducing the size of
the premium market.
The significant growth in the cigarette price category continued in
fiscal 2005 as some premium cigarette consumers searched for lower-priced
alternatives. RBH has continued to benefit from being the first of the three
major tobacco companies to launch an entry into the price cigarette category.
The dynamics of the category have continued to evolve in the recent fiscal
year with a clear emergence of two price tiers in this category. RBH's
products are well placed to take advantage of both tiers. At the lower price
tier, depending on regional consumer preferences, RBH has positioned its
Canadian Classics and Mark Ten brands. At the mid-priced tier the Number 7
brand continues to be offered nationally. In order to further strengthen its
Number 7, Canadian Classics and Mark Ten trade-marks, RBH launched a number of
line extensions to provide consumers of price category cigarettes with a wider
choice of formats and product characteristics. RBH is committed to strategies
which defend its significant position in the cigarette price category.
RBH sold 5.4 billion price category cigarettes in fiscal 2005 and
1.3 billion cigarettes in the recent quarter, representing increases of 109%
and 62% as compared with the similar periods in fiscal 2004. These volumes
represent market shares of the domestic price cigarette category of 41.5% and
42.9% in the fiscal year and quarter ended March 31, 2005 versus 39.4% and
44.2% in the same periods of the previous fiscal year. RBH continues to
experience solid performance from its Number 7, Canadian Classics and Mark Ten
trade-marks. The increase in RBH's share of the cigarette price category
experienced in fiscal 2005 reflects continued volume growth for RBH which
exceeded increases in the size of the total category caused when a competitor
repositioned a major trade-mark from the premium to the price category. A
number of factors continue to influence the overall growth of this product
category including the brands being offered to consumers, their availability
and price.
The fine cut portion of the price category continues to be driven by a
combination of price and innovative product offerings. The emergence of price
category cigarettes has led to erosion of pre-proportioned stick volumes,
however RBH continues to believe that fine cut remains a viable part of the
price category by providing attractively priced alternatives to tobacco
consumers. RBH's leadership position in fine cut has been driven by continuous
innovation resulting in product offerings that are either easier to assemble
or offer better value. RBH is committed to continued product innovation to
maintain or enhance RBH's market leadership position. In keeping with this
product innovation strategy, RBH launched its new "Rolls 100% More" high yield
fine cut product late in the recent fiscal year.
Shipments of RBH fine cut products declined 16.3% and 18.5% in the fiscal
year and quarter ended March 31, 2005 compared with the same periods of the
prior fiscal year. This decline primarily resulted from consumers switching
from pre-portioned stick products to price category cigarettes. RBH's share of
the domestic fine cut market was 59.6% and 59.5% in fiscal 2005 and the recent
quarter compared with 57.6% and 58.8% in the same periods of the previous
fiscal year. Combining the cigarette price category with the fine cut segment,
RBH's share of the total price category was 46.3% and 47.1% in the fiscal year
and quarter ended March 31, 2005 compared with 47.9% and 50.1% in the same
periods of the prior fiscal year. This decline in market share simply
reflected the change in relative volume contribution from price category
cigarettes and fine cut products to the total price category, even though RBH
increased its share of each sub-category.
Consistent with the decline in total reported domestic industry sales
volumes, RBH's total domestic shipments in the recent quarter were 2.6 billion
equivalent sticks, a decrease of 12.3% compared to the prior quarter. Both
normal seasonality and increases in the presence of contraband product are
believed to have contributed to the lower volumes which were experienced
across all product categories.
RBH's EBITDA margin was 43.8% and 37.4% in the fiscal year and quarter
ended March 31, 2005 compared with 43.4% and 36.8% in the same periods of the
prior fiscal year. This EBITDA margin increase was principally due to
increased volumes of price category cigarettes, higher prices across all
product categories, reduced tobacco leaf costs and reduced sales and marketing
expenditures which more than offset reduced premium cigarette and fine cut
volumes.
Rothmans Inc. Financial Results
During the recent quarter the Company executed a two-for-one stock split
effected by way of a stock dividend, which doubled the number of the Company's
outstanding common shares. After reflecting this change, basic earnings per
share were $1.38 and $0.26 in the fiscal year and quarter ended March 31, 2005
versus $1.34 and $0.26 in the comparable periods of the prior year. RBH's
sales, net of excise duty and taxes, of $636.8 million and $144.2 million for
fiscal 2005 and the recent quarter were $16.7 million and $7.6 million higher
than the same periods in the prior year. While cigarette price category
margins are lower than premium cigarette margins, increased volumes of RBH
price category cigarettes together with price increases across all product
categories, more than compensated for volume declines in premium cigarettes
and fine cut products.
RBH twice increased its prices charged to wholesalers during the recent
fiscal year. In the first quarter of the fiscal year 2005, premium cigarette
prices were increased by $1.00 per carton. During the third quarter of the
recent fiscal year prices on Number 7 cigarettes were increased by $2.00 per
carton while prices on Canadian Classics and Mark Ten cigarettes were
increased by $0.50 per carton. The prices on fine cut products were also
increased during the year by varying amounts depending on format. Subsequent
to the recent fiscal year-end, effective April 11, 2005, RBH increased the
price charged to wholesalers for its premium cigarettes and Number 7
cigarettes by $0.80 per carton. Prices on Canadian Classics and Mark Ten were
increased $0.40 per carton. The prices on fine cut products were increased by
varying amounts depending on format.
Investment income of $4.2 million for fiscal 2005 was $0.4 million higher
than fiscal 2004 due to higher average cash balances.
Operating costs, which totaled $362.6 million and $91.6 million for the
fiscal year and quarter ended March 31, 2005, were $6.8 million and
$4.1 million higher than the same periods of the prior fiscal year. During the
fiscal year, RBH's product variable costs were higher than in fiscal 2004 due
to higher shipment volumes. This increase was somewhat offset by RBH's lower
selling and marketing expenditures in fiscal 2005 compared with the prior
fiscal year.
RBH's amortization expense of $9.6 million for fiscal 2005 was relatively
consistent compared with the prior year. Capital spending by RBH increased
during fiscal 2005 to $21.7 million from $11.6 million in fiscal 2004 in
response to the increased cigarette production requirements driven by the
growth of the cigarette price category. Amortization expense is expected to
trend upwards in the coming year as RBH continues a higher than historical
level of capital spending at its manufacturing plants in fiscal 2006 in order
to maintain those plants as well as increase efficiency and flexibility.
Capital expenditures are anticipated to return to historical levels in fiscal
2007.
Income tax expense was $105.8 million and $19.5 million in the fiscal
year and recent quarter ended March 31, 2005 resulting in an effective tax
rate for the fiscal year to date of 40.5%. The Company expects its effective
tax rate for fiscal 2006 to approximate 40.5%.
During fiscal 2005, the Company paid dividends of $70.9 million, versus
$54.6 million in fiscal 2004. The regular quarterly dividend was increased
twice in the recent fiscal year. The Company also announced and paid a stock
dividend in the fourth quarter which effectively constituted a two-for-one
stock split. Cash dividends paid in the recent fiscal year represented $2.10
per share on a pre-split basis or $1.05 per share on a post-split basis.
Capability to Deliver Results
Cash Flow
RBH's operations generate significant cash resources. These are
sufficient to fund interest payments on RBH's long-term debt, capital
expenditures and dividends to its private shareholders. The dividends received
by Rothmans are sufficient to fund its operations, pay dividends to its public
shareholders and continue to accumulate cash reserves.
The Company's consolidated cash flow from operations before changes in
working capital was $168.3 million in the fiscal year ended March 31, 2005
compared with $164.4 million in the comparable period of the prior year.
Cash Resources
Cash and short-term investments of $192.0 million at March 31, 2005
represented the consolidated cash resources of the Company versus $184.9
million at March 31, 2004. This increase in cash and short-term investments is
due to increased earnings from RBH's operations combined with normal quarterly
fluctuations in RBH's working capital requirements. On a non-consolidated
basis, Rothmans held cash and short-term investments of $192.0 million at
March 31, 2005, an increase from $165.9 million at March 31, 2004.
On December 21, 2004, RBH issued $97 million of senior unsecured bonds
through a private placement. The bonds mature on December 21, 2011 and carry a
coupon rate of 5.552%. The full principal amount is repayable on maturity with
no amortization. On January 13, 2005 a further $53 million of senior unsecured
bonds were issued under the same terms and conditions. The proceeds from the
debt offerings were used to repay RBH's previously existing $150 million
floating rate term loan. RBH also paid approximately $1.0 million to cancel
its floating to fixed interest rate swap. It is RBH's present intention to
maintain this level of debt within its capital structure for the foreseeable
future and not to enter into fixed or floating interest rate swaps. See note 7
to the consolidated financial statements for the fiscal year.
Contractual Obligations
The table below summarizes the Company's obligation to make future
payments on long-term debt, lease obligations and other obligations as at
March 31, 2005.
-------------------------------------------------------------------------
Contractual
Obligations Fiscal Fiscal Fiscal Subsequent
($000's) 2006 2007 2008-2010 to 2010 Total
-------------------------------------------------------------------------
Long term debt - - - 150,000 150,000
Operating leases 3,693 3,016 7,774 2,822 17,305
Purchase obligations 9,094 - - - 9,094
Other long-term
obligations - - - - -
-------------------------------------------------------------------------
Total contractual
obligations 12,787 3,016 7,774 152,822 176,399
-------------------------------------------------------------------------
Non-Capital Resources
RBH's critical non-capital resources are its trade-marks, and the culture
and values that characterize the organization. The continuing quality of
product that RBH delivers to its consumers is a key factor in the strength of
RBH's brands.
RBH's culture and values are built upon a number of competencies that
reflect teamwork, leadership and a commitment to win. RBH believes that its
culture and values, which drive how the organization functions, are critical
to its success.
Manufacturing Facilities
Traditionally, RBH's level of capital expenditure approximated
amortization expense and focused on maintaining the manufacturing flexibility
and capacity at both the Quebec City and Brampton plants. Capital expenditures
in the recent fiscal year increased to approximately $21.7 million to support
the increased demand for price category cigarettes. Management expects capital
expenditures to be approximately $25 million in fiscal 2006, before returning
to traditional levels in fiscal 2007.
Compensation Programs
RBH's compensation bonus programs are tiered by level of responsibility
and involve all non-union employees. Bonuses are generated from these programs
based on the achievement of pre-determined corporate market share and
profitability targets, aligning the programs with the drivers of shareholder
value. In the recent fiscal year, executive compensation also included stock
option grants to executives and a select group of other key employees. Annual
option grants as a part of executive compensation programs have been
discontinued effective fiscal 2006.
Critical Accounting Estimates
The preparation of financial statements in conformity with Canadian
generally accepted accounting principles requires management to make estimates
and assumptions that affect the amounts reported in the 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.
Employee Future Benefits
RBH provides defined benefit pension plans, defined contribution pension
plans and post employment benefits to its employees. For the defined benefit
pension plans and the post employment benefits, determination of benefit
obligation and associated expense is subject to significant actuarial
assumptions including the discount rate, the expected return on plan assets,
the projected rate of compensation increase, health care cost trend rates, and
the demographic characteristics of RBH's employee base.
The discount rate is used in determining the present value of the benefit
obligation at the fiscal year-end. The discount rate is prescribed as the
market rate of high quality fixed income investments with a term equivalent to
the projected benefits to be paid under the plans. A lower discount rate
increases the present value of the benefit obligation. A 25 basis point change
in the discount rate applied to the plans would result in a change in the
expected benefit cost of $0.1 million and obligation liability of $5.2 million
for fiscal 2006.
The expected return on plan assets assumption is based on plan asset
allocations and the associated future estimates of the long-term investment
returns. A 25 basis point change in the expected return on plan assets
assumption would change the expected pension cost in fiscal 2006 by
approximately $0.3 million.
Litigation Contingent Liabilities
As discussed more fully in the Risks and Uncertainties section of this
MD&A, the Company and RBH have been the subjects of various legal actions,
proceedings and claims. Based on the stage of those proceedings management is
unable to meaningfully estimate the loss, if any, that might result from those
claims and neither the Company nor RBH has accrued for potential losses.
However, the outcome of any litigation is uncertain. If successful, these
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
Regulatory Environment
Canada is one of the most regulated environments in the world for the
marketing and sale of tobacco products. Restrictive legislation governing
virtually all aspects of tobacco product sales and promotion has been imposed
by federal, provincial and municipal governmental authorities in Canada.
The Tobacco Act (Canada) prohibits the direct or indirect promotion of
tobacco products and bans sponsorships by tobacco product manufacturers. It
also mandates the display of health warnings and information concerning
constituents of the product on tobacco product packaging and requires
prescribed information concerning tobacco products and their ingredients and
emissions to be reported to Health Canada. In December 2002, the Quebec
Superior Court dismissed the constitutional challenge of this legislation by
the three major manufacturers. The manufacturers' appeal of this decision was
heard by the Quebec Court of Appeal in December 2004 and a decision is
expected in mid-2005.
Legislation enacted in Saskatchewan prohibits the display of tobacco
products and any advertising or promotion of tobacco products in any location,
including retail stores, to which persons under the age of 18 have access.
Similar legislation banning the display of tobacco products has been enacted
in Manitoba. Regulations restricting or prohibiting smoking in the workplace
and other environments are in place in many municipal jurisdictions.
Legislation expected to be enacted in Ontario and Quebec would restrict the
display of tobacco products in retail locations and ban smoking in public
places.
Legislation enacted in British Columbia, Newfoundland and Labrador and
Ontario purports to allow the provincial government in its own right to bring
an action against tobacco product manufacturers for the recovery of health
care costs that allegedly have been, or will be, incurred by the province in
respect of alleged smoking-related illnesses. RBH and other tobacco
manufacturers challenged the validity of the British Columbia legislation on
constitutional grounds. In May 2004, the B.C. Court of Appeal, overturning a
lower court decision, ruled that the legislation was constitutionally valid.
RBH and other tobacco product manufacturers have been granted leave to appeal
this decision to the Supreme Court of Canada and a hearing is scheduled for
June 2005.
New regulations enacted under the Tobacco Act will require all cigarettes
manufactured in or imported into Canada as of October 1, 2005 to meet new
reduced ignition propensity performance standards and reports on testing of
cigarette brands against these new standards to be submitted to Health Canada
on an annual basis.
Restrictive legislation and regulations enacted by all levels of
government have proliferated in recent years. This legislation limits RBH's
ability to compete for market share as well as adds significant costs to RBH's
operations in terms of both increased expenses and reduced operating
efficiencies. If RBH is unable to effectively market its products and compete
for market share, or if the costs of compliance with government legislation
and regulation cannot be absorbed through increased selling prices for its
products, RBH's sales and operating results will be adversely affected.
Litigation
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. Since 1995, there has been an increase in the number of these
claims, which include government actions for recovery of health care costs
allegedly incurred in respect of smoking-related illnesses. Certain of these
legal actions have been authorized by the court to proceed as a class action
and punitive damages are specifically pleaded in a number of cases in addition
to compensatory and other damages.
These claims remain at an early stage and involve complicated and novel
questions of law that may take several years to resolve. The Company and RBH
believe that they have good defences to these claims and intend to vigorously
defend themselves. Based on the stage of these proceedings, the Company is
unable to meaningfully estimate the amount or range of loss, if any, that
might result from these claims. Although the precise scope of the class
actions remains unclear, such actions will involve a large number of people,
possibly ranging in the millions. If successful, these 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.
Further information concerning the claims affecting the Company and RBH
is contained in note 13 to the consolidated financial statements of the
Company.
RBH is currently the subject of an ongoing investigation by the RCMP
relating to its business records and sales of products exported from Canada in
the period 1989 - 1996. Although no action has been commenced against the
Company or RBH and the Company believes that RBH's operations were properly
conducted at all times, the Company cannot predict the outcome of any such
investigation or whether additional investigations may be commenced, and it is
possible that RBH's business could be materially affected by an unfavourable
outcome of current or future investigations.
In addition to these claims, the Company is monitoring other legal
proceedings affecting the industry. These claims include a potential class
action currently proceeding against another Canadian tobacco product
manufacturer for damages alleging that a tobacco product caused a fire
resulting in injury and/or death of the plaintiffs and that the defendant was
negligent in failing to sell a fire-safe cigarette. The Company is also
monitoring litigation and proceedings in Canada and the United States,
including class action suits and regulatory investigations, alleging that the
use of the terms "light" and "mild" and other similar descriptors constitute
deceptive and misleading representations and unfair trade practices.
It is not possible to predict the outcome of legal claims, pending and
future, against the Company or RBH. Litigation is subject to many
uncertainties and it is possible that there will be adverse developments in
the claims pending against the Company and RBH and that these and any
potential future cases could be decided unfavourably. An unfavourable outcome
or settlement of pending litigation against RBH or other tobacco product
manufacturers could encourage the commencement of additional litigation
involving RBH or the Company. There has also been a number of adverse
legislative, regulatory, political and other developments concerning cigarette
smoking and the tobacco industry that have received widespread media
attention. These circumstances may negatively affect the outcome of pending
litigation and may prompt the commencement of additional similar litigation.
Tobacco Taxation
Tobacco tax increases introduced in the years 1995 to 2001, while
frequent in number and well in excess of inflation, were generally moderate in
size. Since the increases were not exorbitant, we believe contraband
activities remained relatively low during this period. Unfortunately, this
policy of moderation was abandoned in 2001 when federal, and especially
provincial tobacco tax rates, began to increase dramatically to current
unprecedented levels. Very high tobacco taxes lead to significant increases in
the size of the untaxed or partially taxed tobacco product market. The
presence of contraband product in the domestic tobacco market appears to have
increased in fiscal 2005.
In the year ended March 31, 2005, Saskatchewan, Manitoba, Ontario and
Newfoundland and Labrador increased taxes by $3.00, $4.00, $3.75 and $2.00 per
carton, respectively. Taxes on other tobacco product categories were also
increased in these provinces. Federal and other provincial tobacco tax rates
remained unchanged during the same period.
RBH is the market leader in the fine cut segment and these products play
an important role in providing a fully taxed alternative to price-sensitive
smokers who might otherwise switch to contraband products. However, both
tobacco stick and high-yield roll-your-own products have been targeted by anti-
smoking groups for increased taxes. One province, Newfoundland and Labrador,
has recently revised its tax policy to tax roll-your-own fine cut products on
an approximate cigarette yield basis. Other jurisdictions may also be
considering a similar policy. Fine cut products, including tobacco sticks,
provide a controlled alternative to contraband. Fine cut tobacco sales volumes
are not growing at the expense of higher-taxed cigarette products. In fact,
sales volumes are decreasing in this market segment. The Company firmly
believes that fine cut products can contribute to the control of contraband
and it is important that governments recognize this and maintain
differentiated taxing structures.
RBH's sales volumes are negatively affected by the existence of illicit
trade in tobacco products within Canada, and unreasonable future tax increases
will simply exacerbate the problem. As well, any shift in government policy to
tax fine cut products at cigarette equivalents may make RBH's products less
attractive to consumers. This could result in an adverse effect on sales
volumes and on RBH's profitability, cash flows and financial condition.
New Product Standards
New government regulations which become effective in October 2005, will
establish fire safety standards for tobacco products and require tobacco
products sold in Canada to meet specified reduced ignition propensity
standards.
New product technologies continue to be of importance due to the
political, social and legal focus on the health effects of tobacco products.
Tobacco product manufacturers continue to seek ways to develop and
commercialize new product technologies, which continue to offer adult smokers
products that meet their taste expectations. While RBH is endeavouring, where
possible, to ensure that new product developments and new technologies for
tobacco products will be available to it, there can be no guarantee that RBH
will be successful in these efforts. Should one or more of its competitors
acquire such technologies which are not available to RBH, it may be at a
competitive disadvantage and its sales and results of operations may be
adversely affected.
Competition
The tobacco industry is highly competitive. Certain of RBH's competitors
in the tobacco manufacturing industry have substantially greater financial
resources than RBH or may have an inherently greater ability to operate on a
lower-cost basis or implement production efficiencies. As a result, those
competitors may be able to compete more aggressively than RBH, particularly in
respect of retail merchandising arrangements and product selling margins.
The combined effect of significant tax increases implemented by federal
and provincial governments together with manufacturers' price increases have
resulted in substantial increases in the retail price of tobacco products,
particularly premium cigarettes. Over the past four years, RBH's premium
brands have encountered significant increased competition from lower-priced
cigarette products. Additional competition has also resulted from diversion
into the domestic market of cigarettes intended for sale outside of Canada,
the sale of counterfeit cigarettes by third parties and the sale of non-tax
paid product over the Internet. As a result, the market share of price
cigarettes has increased significantly, putting pressure on the industry's
premium cigarette category and overall selling margins. If these competitive
factors continue, sales of premium cigarettes, the most profitable category,
may continue to shift to the cigarette price category. The impact on the sales
and earnings of RBH will be dependent upon consumer buying patterns with
respect to products offered in the cigarette price category by RBH and
competing manufacturers. Steps that RBH has taken or may take with respect to
the cigarette price category may not continue to be successful. All of these
factors could result in lower overall sales and margins for RBH and could have
a significant adverse effect on the operations, cash flow and financial
condition of RBH.
Risk Management
Corporate risks are managed by RBH at the functional level with the
oversight of a Risk Management Committee employing an enterprise-wide risk
management methodology. Risk management is a continuous process and RBH
continues to refine its crisis management and contingency plans. RBH adheres
to certain standards, principles and operational practices to reduce risk
exposure throughout the organization, and has proactively developed a culture
where risk management is a guiding principle for the company.
Outlook
Looking ahead, Rothmans expects that a number of factors could affect its
financial performance including:
- the success of efforts by RBH and the industry to defend themselves
against product liability, government and other claims, and to
operate within the regulatory 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;
- the impact of RBH's efforts to stabilize 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 and as a result of
varying wholesaler purchasing patterns;
- RBH's ability to maintain its leading position in the fine cut
segment;
- RBH's ability to continue to implement price increases for its
products;
- government tax policy regarding the differentiation in tax rates
applicable to fine cut products in comparison to tailor-made
cigarettes;
- increased levels of counterfeit and other contraband product that may
occur due to the increasingly onerous tax environment; and
- RBH's continued success at maintaining or reducing costs, especially
in view of the potential for regulated changes to product
specifications.
In fiscal 2005 it is believed that the increasing presence of contraband
was a key factor in the increased decline rate in total reported industry
sales volumes which exceeded historical levels by more than 2%. Continued
growth in the availability of contraband products in the domestic market as a
result of high tobacco tax rates across the country may increase the decline
rate in reported industry volumes further in fiscal 2006 which would have a
negative impact on RBH's sales volumes.
RBH domestic price cigarette category volumes grew by 109.0% in fiscal
2005 and 61.6% in the recent quarter compared to the comparable periods in the
prior fiscal year. Price category cigarettes are estimated to have represented
38.0% of total reported industry domestic cigarette sales volumes in fiscal
2005, an increase from 7.2% of those volumes in fiscal 2003 and 18.3% in
fiscal 2004. While it is expected that the cigarette price category will
continue to grow, it is expected that the rate of growth will be less than
seen in recent years as the category approaches maturity.
Effective October 1, 2005, federal regulations will require that all
cigarettes manufactured or imported into Canada comply with standards designed
for reduced ignition propensity. RBH has contracted for the supply of
cigarette paper designed to meet the standard and expects that this new paper,
together with testing, will increase costs by approximately $9 million in the
fiscal year ending March 31, 2006. On an annualized basis, costs are estimated
to increase by $14 million per year.
In order to ensure production capacity remains adequate to meet the
increased demand caused by the growth of the cigarette price category,
management expects capital expenditures to be approximately $25 million in
fiscal 2006, before returning to traditional levels in fiscal 2007.
Rothmans has a strong balance sheet with more than sufficient cash flow
and resources to service the long-term debt and meet capital expenditure
requirements. The Company has demonstrated its commitment to increasing
shareholder returns, and is committed to exploring other potential investment
opportunities, in conjunction with RBH's continuing attention to its core
brand strategy.
Quarterly Unaudited Consolidated Financial Information
Period ended
(in thousands of FISCAL 2005
dollars, except Total
per share amounts) Jun 30 Sep 30 Dec 31 Mar 31 Year
-------------------------------------------------------------------------
EARNINGS
Revenues:
Sales, net of excise
duty and taxes $161,805 $166,669 $164,110 $144,187 $636,771
Investment income 884 912 1,181 1,252 4,229
--------------------------------------------------
Total revenues 162,689 167,581 165,291 145,439 641,000
Costs:
Operating costs
excluding amortization 90,613 90,245 90,190 91,593 362,641
--------------------------------------------------
Earnings before interest,
taxes and amortization 72,076 77,336 75,101 53,846 278,359
Amortization 2,127 2,195 2,598 2,654 9,574
Interest expense
(income)
- Long-term debt 1,937 1,954 1,983 3,084 8,958
- Other (334) (418) (488) (278) (1,518)
--------------------------------------------------
Earnings before income
taxes and minority
interest 68,346 73,605 71,008 48,386 261,345
Income taxes
- Current 27,480 29,002 28,149 21,958 106,589
- Future 476 656 485 (2,455) (838)
--------------------------------------------------
Total income taxes 27,956 29,658 28,634 19,503 105,751
--------------------------------------------------
Earnings before
minority interest 40,390 43,947 42,374 28,883 155,594
Minority interest 16,548 17,540 16,931 11,578 62,597
--------------------------------------------------
Earnings for the period $ 23,842 $ 26,407 $ 25,443 $ 17,305 $ 92,997
--------------------------------------------------
--------------------------------------------------
Earnings per common
share
- Basic $ 0.35 $ 0.39 $ 0.38 $ 0.26 $ 1.38
--------------------------------------------------
--------------------------------------------------
- Diluted $ 0.35 $ 0.39 $ 0.37 $ 0.25 $ 1.37
--------------------------------------------------
--------------------------------------------------
RETAINED EARNINGS
Balance at beginning
of period $129,628 $136,622 $146,143 $154,700 $129,628
Earnings for the period 23,842 26,407 25,443 17,305 92,997
--------------------------------------------------
153,470 163,029 171,586 172,005 222,625
Dividends paid:
Common Shares -
(2005 - $1.05
per share) (16,848) (16,886) (16,886) (20,271) (70,891)
--------------------------------------------------
Balance at end of
period $136,622 $146,143 $154,700 $151,734 $151,734
--------------------------------------------------
--------------------------------------------------
Rothmans Inc. and subsidiary companies
Quarterly Unaudited Consolidated Financial Information
Period ended
(in thousands FISCAL 2004
of dollars, except Total
per share amounts) Jun 30 Sep 30 Dec 31 Mar 31 Year
-------------------------------------------------------------------------
EARNINGS
Revenues:
Sales, net of excise
duty and taxes $140,728 $172,864 $169,970 $136,542 $620,104
Investment income 890 925 936 1,088 3,839
--------------------------------------------------
Total revenues 141,618 173,789 170,906 137,630 623,943
Costs:
Operating costs
excluding amortization 83,963 90,540 93,905 87,453 355,861
--------------------------------------------------
Earnings before interest,
taxes and amortization 57,655 83,249 77,001 50,177 268,082
Amortization 2,226 2,614 2,582 2,458 9,880
Interest expense
(income)
- Long-term debt 1,952 1,925 2,102 1,994 7,973
- Other (393) (794) (865) (402) (2,454)
--------------------------------------------------
Earnings before income
taxes and minority
interest 53,870 79,504 73,182 46,127 252,683
Income taxes
- Current 21,876 31,776 29,881 22,229 105,762
- Future 270 250 233 (4,930) (4,177)
--------------------------------------------------
Total income taxes 22,146 32,026 30,114 17,299 101,585
--------------------------------------------------
Earnings before
minority interest 31,724 47,478 43,068 28,828 151,098
Minority interest 13,099 18,927 17,215 11,580 60,821
--------------------------------------------------
Earnings for the period $ 18,625 $ 28,551 $ 25,853 $ 17,248 $ 90,277
--------------------------------------------------
--------------------------------------------------
Earnings per common
share
- Basic $ 0.28 $ 0.42 $ 0.38 $ 0.26 $ 1.34
--------------------------------------------------
--------------------------------------------------
- Diluted $ 0.28 $ 0.42 $ 0.38 $ 0.26 $ 1.34
--------------------------------------------------
--------------------------------------------------
RETAINED EARNINGS
Balance at beginning
of period $ 93,969 $100,001 $115,948 $127,096 $ 93,969
Earnings for the period 18,625 28,551 25,853 17,248 90,277
--------------------------------------------------
112,594 128,552 141,801 144,344 184,246
Dividends paid:
Common Shares -
(2004 - $0.8125
per share) (12,593) (12,604) (14,705) (14,716) (54,618)
--------------------------------------------------
Balance at end of
period $100,001 $115,948 $127,096 $129,628 $129,628
--------------------------------------------------
--------------------------------------------------
Rothmans Inc. and subsidiary companies
Unaudited Consolidated Statements of Earnings and Retained Earnings
Year ended March 31 (in thousands of
dollars, except per share amounts) 2005 2004 2003
-------------------------------------------------------------------------
EARNINGS
Revenues:
Sales, net of excise duty and taxes $636,771 $620,104 $575,469
Investment income 4,229 3,839 5,411
------------------------------
Total revenues 641,000 623,943 580,880
Costs:
Operating costs excluding amortization 362,641 355,861 326,311
------------------------------
Earnings before interest, taxes and
amortization 278,359 268,082 254,569
Amortization (notes 5 and 7) 9,574 9,880 7,548
Interest expense (income)
- Long-term debt (note 7) 8,958 7,973 7,524
- Other (note 6) (1,518) (2,454) (700)
------------------------------
Earnings before income taxes and minority
interest 261,345 252,683 240,197
Income taxes (note 11)
- Current 106,589 105,762 91,203
- Future (838) (4,177) 4,109
------------------------------
Total income taxes 105,751 101,585 95,312
------------------------------
Earnings before minority interest 155,594 151,098 144,885
Minority interest 62,597 60,821 58,207
------------------------------
Earnings for the year $ 92,997 $ 90,277 $ 86,678
------------------------------
------------------------------
Earnings per common share (notes 1, 3
and 8)
- Basic $ 1.38 $ 1.34 $ 1.30
------------------------------
------------------------------
- Diluted $ 1.37 $ 1.34 $ 1.29
------------------------------
------------------------------
RETAINED EARNINGS
Balance at beginning of year $129,628 $ 93,969 $225,235
Earnings for the year 92,997 90,277 86,678
------------------------------
222,625 184,246 311,913
Dividends paid:
Common Shares
(2005 - $1.05 per share, 2004 - $0.8125,
2003 - $3.25(x)) (70,891) (54,618) (217,944)
------------------------------
Balance at end of year $151,734 $129,628 $ 93,969
------------------------------
------------------------------
(x) Includes special dividend of $2.50 per share paid on December 17,
2002
Rothmans Inc. and subsidiary companies (unaudited)
Unaudited Consolidated Balance Sheets
March 31 (in thousands of dollars) 2005 2004 2003
-------------------------------------------------------------------------
ASSETS
Current Assets
Cash and cash equivalents $ 23,255 $ 46,978 $ 31,182
Short-term investments 168,740 137,929 82,088
Accounts receivable 32,119 31,993 82,781
Inventories (note 4) 209,819 198,941 153,534
Prepaid expenses 1,322 2,123 3,501
------------------------------
Total current assets 435,255 417,964 353,086
Property, plant and equipment (note 5) 69,149 56,292 54,615
Future income taxes (note 11) 8,831 7,993 3,816
Prepaid pension benefit cost (note 10) 12,003 11,738 15,198
Other assets 3,290 2,770 3,250
------------------------------
$528,528 $496,757 $429,965
------------------------------
------------------------------
LIABILITIES
Current Liabilities
Bank indebtedness (note 6) $ - $ - $ 20,447
Accounts payable and accrued liabilities 47,445 37,021 32,540
Excise and other taxes payable 79,578 77,587 42,109
Income taxes payable 21,475 30,178 15,868
------------------------------
Total current liabilities 148,498 144,786 110,964
Other long-term liabilities 2,167 1,468 776
Other employee future benefits (note 10) 33,497 30,439 27,804
Long-term debt (note 7) 149,708 150,000 150,000
Minority interest in subsidiary company 950 1,567 9,884
------------------------------
334,820 328,260 299,428
------------------------------
SHAREHOLDERS' EQUITY
Capital stock (notes 8 and 9) 41,974 38,869 36,568
Retained earnings 151,734 129,628 93,969
------------------------------
------------------------------
193,708 168,497 130,537
------------------------------
$528,528 $496,757 $429,965
------------------------------
------------------------------
Rothmans Inc. and subsidiary companies (unaudited)
Unaudited Consolidated Statements of Cash Flows
Year ended March 31 (in
thousands of dollars) 2005 2004 2003
-------------------------------------------------------------------------
Cash provided by (used in):
OPERATING ACTIVITIES
Earnings for the year $ 92,997 $ 90,277 $ 86,678
Adjusted for non-cash items
Amortization (notes 5 and 7) 9,574 9,880 7,548
Minority interest 62,597 60,821 58,207
Future income taxes (recovery) (838) (4,177) 4,109
Loss on disposal of property,
plant & equipment 150 388 297
Defined and other employee future
benefits expense 7,681 8,240 6,545
Defined and other employee future
benefits funding (4,888) (2,145) (9,909)
Share option compensation cost 1,030 1,092 1,209
------------------------------
168,303 164,376 154,684
Changes in non-cash operating working
capital (6,281) 61,184 (17,405)
------------------------------
162,022 225,560 137,279
------------------------------
INVESTING ACTIVITIES
Additions to property, plant & equipment,
net (21,666) (11,621) (12,156)
Proceeds on disposal (purchase) of
short-term investments (30,811) (55,841) 117,912
------------------------------
(52,477) (67,462) 105,756
------------------------------
FINANCING ACTIVITIES
Dividends paid
By the Company (70,891) (54,618) (217,944)
By a subsidiary company to minority
shareholder (63,214) (69,138) (59,798)
Proceeds on issuance of bonds 149,697 - -
Repayment of long-term debt (150,000) - -
Payment of financing charges on issuance
of bonds (1,634) - -
Proceeds on issuance of common shares 2,075 1,209 7,320
Proceeds on (repayment of) bank indebtedness - (20,447) 20,447
Proceeds on other long-term liabilities 699 692 411
------------------------------
(133,268) (142,302) (249,564)
------------------------------
(Decrease) increase in cash and
cash equivalents (23,723) 15,796 (6,529)
Cash and cash equivalents at beginning
of year 46,978 31,182 37,711
------------------------------
Cash and cash equivalents at end of year $ 23,255 $ 46,978 $ 31,182
------------------------------
------------------------------
SUPPLEMENTARY DISCLOSURES
Income taxes paid $115,185 $ 92,534 $102,930
Interest paid
- Long-term debt 5,480 7,921 6,638
- Other 232 171 239
Rothmans Inc. and subsidiary companies
Notes to Unaudited Consolidated Financial Statements
(tabular amounts are in thousands of dollars, except for share and
per share data)
1. Summary of significant accounting policies
The consolidated financial statements of Rothmans Inc. (the Company) are
prepared on the historical cost basis in accordance with Canadian
generally accepted accounting principles.
a) Principles of consolidation
The consolidated financial statements include the accounts of the Company
and all subsidiaries including its 60% owned subsidiary, Rothmans,
Benson & Hedges Inc. (RBH).
b) Use of estimates
The preparation of consolidated financial statements in conformity with
Canadian generally accepted accounting principles requires management to
make estimates and assumptions that affect the amounts reported in the
consolidated financial statements and accompanying notes. Although these
estimates are based on management's best knowledge of current events and
actions that the Company may undertake in the future, actual results
could differ from those estimates.
c) Inventories
Inventories are stated at the lower of cost and net realizable value.
d) Property, plant and equipment
Property, plant and equipment are recorded at cost and adjusted to fair
market value where cost is higher than the net recoverable amount.
Amortization is provided on a straight-line basis over the estimated
service lives of the assets, which are as follows for the principal asset
categories:
Land improvements: 10 years
Buildings 30 years
Machinery and equipment 3 to 10 years
Motor vehicles 5 years
Leasehold improvements term of lease, not to exceed 10 years
e) Employee future benefits
The cost of pension benefits earned by employees covered under defined
benefit plans is determined using the projected benefit method pro-rated
on service, and incorporates management's best estimate of future salary
levels, and other cost escalation, retirement ages of employees and other
actuarial factors. Adjustments arising from plan amendments, transitional
obligations, past service costs, and experience gains and losses are
amortized on a straight-line basis over the estimated average remaining
service lives of the employee groups, using the corridor approach.
Defined benefit pension plan assets are recorded at fair market value.
The cost of post-employment benefits other than pensions is recognized on
an accrual basis over the working lives of employees.
f) Future income taxes
Future income tax assets and liabilities are recorded on the difference
between the accounting carrying values of balance sheet assets and
liabilities and the tax cost basis of these assets and liabilities based
on substantively enacted tax laws and rates.
The Company reviews the value of its future income tax assets and
liabilities quarterly and records adjustments, as necessary, to reflect
the realizable amounts of its future income tax assets and liabilities.
The Company expects that it will realize its future income tax assets and
liabilities in the normal course of operations.
g) Marketing
Marketing costs, including those related to the introduction of new
brands, are charged against earnings during the year in which they are
incurred.
h) Earnings per common share
The Company uses the treasury stock method of calculating earnings per
share amounts whereby any proceeds from the exercise of stock options or
other dilutive instruments are assumed to be used to purchase common
shares at the average market price during the year.
i) Stock-based compensation plans
The Company has stock-based compensation plans as described in note 9.
The Company expenses the fair value of stock options when granted to
employees. The amount paid by employees on exercising stock options is
credited to share capital. The Company's contributions under the employee
share purchase plan are charged to earnings as purchases are made.
j) Cash and cash equivalents
Cash and cash equivalents are comprised of cash and short-term deposits
with original maturities of three months or less.
k) Interest rate swaps
Interest rate swaps are used to change the interest rate on a portion of
the outstanding debt from floating rate to fixed rate. This type of
interest rate swap involves the receipt of floating rate amounts in
exchange for fixed rate interest payments based on an underlying notional
principal amount over the life of the swap agreement.
2. Changes in accounting policies
Effective April 1, 2002, the Company commenced the recognition of
compensation cost for the Company's stock-based compensation plan
determined based on the fair value method to reflect compensation costs
for all options granted after March 31, 2002. For the year ended March
31, 2005, the Company expensed $1.0 million (2004 - $1.1 million, 2003 -
$1.2 million) in respect of its stock-based compensation plan.
Effective April 1, 2004, the Company adopted The Canadian Institute of
Chartered Accountants (CICA) guideline 13 "Hedging Relationships" which
establishes certain conditions when hedge accounting may be applied. The
relevant hedging relationship will be subject to an effectiveness test on
a regular basis for reasonable assurance that it is and will continue to
be effective. Under these rules, any derivative instrument that does not
qualify for hedge accounting will be recorded at the market value
applicable if the instrument was sold at the period end date, and any
losses or gains would be recognized in earnings. During the fiscal year,
the Company applied the test established by the CICA and the interest
rate swap was deemed to be effective, qualifying it for hedge accounting.
As at March 31, 2005, the Company no longer held the derivative
instrument related to its long-term debt, as detailed in note 7.
3. Earnings per share
Earnings per common share is calculated based on a weighted average
number of 67,491,827 (2004 - 67,219,412, 2003 - 66,597,170) shares
outstanding. Diluted earnings per common share is calculated based on
67,871,711 (2004 - 67,377,788, 2003 - 67,094,162) common shares
outstanding, the dilution being due to the issuance of common share
options.
4. Inventories
2005 2004 2003
$ $ $
------------------------------
Leaf tobacco 88,249 82,501 78,687
Finished goods 99,995 95,870 54,321
Packaging material and other 21,575 20,570 20,526
------------------------------
209,819 198,941 153,534
------------------------------
------------------------------
5. Property, plant and equipment
2005 2004 2003
$ $ $
------------------------------
Cost:
Land and land improvements 1,499 1,501 1,501
Buildings 24,269 23,781 23,712
Machinery and equipment 168,509 149,213 140,578
Motor vehicles 1,007 998 1,024
Leasehold improvements 2,752 2,682 2,684
------------------------------
198,036 178,175 169,499
Less: Accumulated amortization 128,887 121,883 114,884
------------------------------
69,149 56,292 54,615
------------------------------
------------------------------
Accumulated amortization:
Land improvements 137 135 128
Buildings 13,383 12,890 12,356
Machinery and equipment 112,510 106,134 99,775
Motor vehicles 982 998 1,020
Leasehold improvements 1,875 1,726 1,605
------------------------------
128,887 121,883 114,884
------------------------------
------------------------------
For the year ended March 31, 2005, a total amortization expense of
$8.7 million (2004 - $9.6 million, 2003 - $7.2 million) was recorded.
6. Bank indebtedness
2005 2004 2003
$ $ $
------------------------------
Bank indebtedness - - 20,447
------------------------------
------------------------------
Other interest income is net of related interest expense of $0.2 million
(2004 - $0.2 million, 2003 - $0.2 million).
7. Long-term debt
On September 27, 2001, RBH reorganized its capital structure by reducing
its share capital by $150.0 million and distributed that amount to its
shareholders. This distribution was funded through a $150.0 million, five-
year, unsecured floating rate term loan entered into with a Canadian bank
syndicate, which could be prepaid in whole or in part at any time at the
option of RBH with the principal coming due on September 28, 2006.
During the fiscal year 2005, RBH issued a total of $150.0 million of
senior unsecured bonds through a private placement. On December 21, 2004,
$97.0 million of bonds carrying a coupon rate of 5.552% payable semi-
annually were issued. Under the same terms and conditions as the December
21, 2004 debt issue, an additional $53.0 million of bonds at a discount
of $0.3 million to their face value were issued on January 13, 2005. The
proceeds from the issuance of these bonds were used to fully repay the
Company's floating rate credit facility.
These bonds mature on December 21, 2011 and their principal is repayable
in full at maturity without amortization. The bonds are direct, senior,
unsecured and unsubordinated obligations of RBH ranking pari passu with
all other present and future senior, unsecured and unsubordinated
indebtedness of RBH. Under this debt obligation, RBH is subject to
certain covenants, including a maximum debt to EBITDA ratio of 3.0 times
on a consolidated basis. RBH has the right to repay the bonds at any time
in whole or in part, subject to certain "make-whole" provisions.
Financing costs related to this debt issue are being amortized over the
term of the bonds. As at March 31, 2005, approximately $1.6 million of
costs were remaining after recognizing amortization expenses of $71,000.
During the fiscal year 2005, the Company expensed $0.8 million (2004 -
$0.3 million, 2003 - $0.3 million) of total unamortized financing costs
related to the floating rate credit facility and also paid approximately
$1.0 million to cancel its floating to fixed interest rate swap. A
discount of $0.3 million on the bonds is also being amortized over the
term of the bonds and a total of $11,000 was expensed in the year-ended
March 31, 2005.
The following table details the interest rate swaps and rates of interest
as at the balance sheet dates.
2005 2004 2003
$ $ $
------------------------------
Notional amount nil 75,000 75,000
Weighted average floating rate NA 4.6650% 4.2901%
Weighted average fixed rate NA 5.9525% 5.7725%
8. Capital stock
Authorized - an unlimited number of common shares
Issued - 67,572,008 (2004 - 67,351,208, 2003 - 67, 162, 208) common
shares
2005 2004 2003
$ $ $
------------------------------
Balance - April 1 38,869 36,568 28,039
Issuance of shares 2,075 1,209 7,320
Contributed surplus (note 9) 1,030 1,092 1,209
------------------------------
Balance - March 31 41,974 38,869 36,568
------------------------------
------------------------------
During fiscal year 2005, a total of 220,800 (2004 - 189,000, 2003 -
944,000) shares were issued due to the exercise of stock options.
On February 4, 2005, the Company announced a two-for-one stock split to
be effected by way of a stock dividend. The stock dividend was paid on
March 17, 2005 to shareholders of record on March 4, 2005. All stock-
based benefit plans, share and per share data have been adjusted to
reflect the stock split.
9. Stock-based compensation plans
The details of the Company's share option plan and employee share
purchase plan are as follows:
a) Share option plan
In March of 2000, the Board of Directors of the Company approved a share
option plan for the purpose of advancing the interests of the Company
through the attraction, motivation and retention of employees and
officers of the Company and RBH. This plan was subsequently approved by
the Company's shareholders at the annual general meeting in July 2000.
Under the current plan, the Company may grant options to its employees
for up to 3.4 million common shares. The exercise price of each option
equals the market price of the Company's common shares as at the date of
the grant. Granted options vest in three equal amounts as the twenty-day
average trading price of the Company's shares exceeds thresholds of 10%,
20% and 30% above the option exercise price. Generally, vested options
may be exercised over a ten-year period from the date of grant. In
certain circumstances, upon exercise, optionees are also entitled to
receive an amount equal to the aggregate of all special dividends paid
since the date of the option grant.
The fair value of each option grant was estimated on the date of grant
using the Binomial option pricing model with the following assumptions:
2005 2004 2003
------------------------------
Risk-free interest rate (%) 4.25(x) 3.90 5.15
Dividend yield (%) 5.20 5.20 5.00
Expected lives (years) 6 6 6
Volatility (%) 22.00 26.50 26.50
(x) The risk-free interest rate is the yield for a six-year Government of
Canada bond on the date of grant.
A summary of the status of the Company's employee share option plan as at
March 31, 2005, 2004 and 2003, and changes during the years ending on
those dates is presented below:
2005 2004 2003
--------------------------------------------------------
Weighted Weighted Weighted
average average average
exercise exercise exercise
price price price
Options Shares $ Shares $ Shares $
-------------------------------------------------------------------------
Outstanding -
Beginning of
year 1,556,800 13.281 1,235,400 13.006 1,794,400 9.575
Granted 438,400 16.620 510,400 12.320 385,000 16.125
Exercised 220,800 11.528 189,000 8.892 944,000 7.755
Forfeited - - - - - -
--------------------------------------------------------
Outstanding -
End of year 1,774,400 14.325 1,556,800 13.281 1,235,400 13.006
--------------------------------------------------------
--------------------------------------------------------
Options
exercisable
at year-end 1,774,400 14.325 1,428,468 13.025 978,734 12.188
--------------------------------------------------------
--------------------------------------------------------
Weighted average
fair value of
options granted
during the year 2.35 2.14 3.14
------- ------- -------
------- ------- -------
Under the current share option plan, as at March 31, 2005, 181,800 (2004
- 620,200, 2003 - 1,130,600) common shares were available for granting of
further options. No options were forfeited in fiscal 2005.
The following table summarizes information about share options
outstanding as at March 31, 2005:
Weighted
average
Exercise remaining
price Number contractual Number
$ outstanding life exercisable
-------------------------------------------------------------
7.250 7,000 5.0 7,000
8.825 18,000 5.3 18,000
11.500 188,000 6.1 188,000
12.320 476,600 8.1 476,600
14.080 261,400 6.5 261,400
16.125 385,000 7.1 385,000
16.620 438,400 9.1 438,400
------------ ------------
1,774,400 1,774,400
------------ ------------
------------ ------------
b) Employee share purchase plan
The Company has an employee share purchase plan in place to assist
employees in taking an ownership position in the Company. This plan
promotes employee participation in the business, and thus better aligns
their interests with the interests of shareholders. The plan allows every
employee to contribute between 1% to 5% of their base salary towards the
purchase of shares. The Company contributes 35% of each employee's
contributions up to $1,500 per annum. Contributed funds are utilized to
purchase the Company's shares on the open market. The Company also pays
for all fees and transaction costs associated with the purchases.
During fiscal year 2005, a total of 88,291 (2004 - 104,062, 2003 -
124,640) shares of the Company were purchased under the provisions of
this plan.
10. Employee future benefits
The Company provides pension (including both defined benefit and
contribution plans) and post-employment, and post-retirement benefits,
which in aggregate are considered employee future benefits. Defined
benefit pension obligations are funded with independent trustees in
accordance with legal requirements.
The defined benefit plan assets were determined using the market value of
plan assets at March 31, 2005. The most recent actuarial valuations for
the various defined benefit plans were at April 1, 2004 and December 31,
2004 and valuations are carried out both annually and biannually
depending on the plan. The last actuarial valuation for other benefits
was at March 31, 2001 and a valuation will be performed in fiscal 2006
with an effective date of March 31, 2005.
The table below provides plan information on the actuarially determined
benefit obligation, the status of plan assets and the net benefit plan
status for the year.
2005 2004 2003
Defined Defined Defined
benefit Other benefit Other benefit Other
pensions benefits pensions benefits pensions benefits
$ $ $ $ $ $
------------------------------------------------------
Change in benefit
obligation
Benefit
obligation -
beginning of year 134,464 41,060 125,045 35,160 122,889 33,535
Current service
cost 4,222 1,717 3,832 1,333 4,762 1,283
Interest cost 7,914 2,406 8,213 2,354 8,105 2,236
Actuarial (gain)
loss (693) (341) 6,504 4,605 (2,752) 317
Benefits paid (8,266) (2,186) (9,130) (2,392) (7,959) (2,211)
------------------------------------------------------
Benefit obligation
- end of year 137,641 42,656 134,464 41,060 125,045 35,160
------------------------------------------------------
------------------------------------------------------
Change in plan
assets
Fair value of plan
assets - beginning
of year 145,514 - 130,503 - 142,596 631
Return on plan
assets 13,249 - 24,388 - (12,356) (107)
Net employer
contributions 2,702 2,186 (247) 2,392 8,222 1,687
Benefits paid (8,266) (2,186) (9,130) (2,392) (7,959) (2,211)
------------------------------------------------------
Fair value of plan
assets - end
of year 153,199 - 145,514 - 130,503 -
------------------------------------------------------
------------------------------------------------------
Plan status
Funded surplus
(deficit) 15,558 (42,656) 11,050 (41,060) 5,458 (35,160)
Unrecognized (gain)
loss 5,371 7,159 10,321 7,825 20,079 3,765
Unrecognized
transition
liability (10,103) 2,000 (10,922) 2,796 (11,740) 3,591
Unrecognized past
service 1,177 - 1,289 - 1,401 -
------------------------------------------------------
Prepaid (accrued)
benefit cost 12,003 (33,497) 11,738 (30,439) 15,198 (27,804)
------------------------------------------------------
------------------------------------------------------
Included in the above prepaid defined benefit obligation and fair value
of plan assets are the following amounts in respect of one plan that is
not fully funded:
Defined benefit pensions 2005 2004 2003
$ $ $
------------------------------
Benefit obligation - end of year 33,330 34,870 30,658
Fair value of plan assets - end of year 27,177 24,070 22,135
------------------------------
Funded (deficit) surplus (6,153) (10,800) (8,523)
------------------------------
As at March 31, 2005, approximately 49% (2004 - 49%; 2003 - 44%) of the
defined benefit pension plan assets were invested in equities, 38% (2004
- 41%; 2003 - 44%) in fixed income securities, and 13% (2004 - 10%; 2003
- 12%) in cash and cash equivalents. The plan assets for the current
fiscal year included investments in the Company's shares of $0.4 million
or 0.3% of total plan assets (2004 - $0.3 million or 0.2%; 2003 -
$0.4 million or 0.3%).
The defined contribution plan assets as at March 31, 2005 were
$82.1 million (2004 - $72.4 million, 2003 - $59.2 million).
The significant actuarial assumptions used to arrive at the net defined
benefit obligations are shown below:
2005 2004 2003
------------------------------------------------------
Defined Defined Defined
benefit Other benefit Other benefit Other
pensions benefits pensions benefits pensions benefits
% % % % % %
------------------------------------------------------
Weighted average
assumptions
Discount rate 6.00 6.00 6.75 6.00 6.75 6.00
Expected return
on plan assets 7.00 - 7.00 - 8.00 7.50
Rate of compensation
increase 4.50 5.00 5.00 5.00 5.00 5.00
Beginning in 2001, the health care cost trend rate was 9.5%, which is
graded down by 1.0% each year for five years until it reaches 4.5% in
2006.
Total cash payments by the Company for all employee future benefits for
2005 was $8.1 million (2004 - $5.2 million and 2003 - $12.9 million).
The company's defined benefit pension plan and other benefits expenses
are as follows:
2005 2004 2003
------------------------------------------------------
Defined Defined Defined
benefit Other benefit Other benefit Other
pensions benefits pensions benefits pensions benefits
$ $ $ $ $ $
------------------------------------------------------
Current service
cost 4,222 1,717 3,832 1,333 4,762 1,283
Interest cost 7,914 2,406 8,213 2,354 8,105 2,236
Actual return on
plan assets (13,249) - (24,388) - 12,356 107
Amortization of
plan (gains)
losses (693) (341) 6,504 4,605 (2,752) 317
------------------------------------------------------
Costs arising in
the period (1,806) 3,782 (5,839) 8,292 22,471 3,943
Difference between
costs arising and
costs recognized
in respect of:
Return on plan
assets 4,249 - 16,312 - 1,917 -
Actuarial loss
(gain) 701 667 6,553 (4,060) (21,924) 50
Transitional
obligations (819) 795 (819) 795 (819) 795
Past service cost 112 - 112 - 112 -
------------------------------------------------------
Net Expense
recognized 2,437 5,244 3,213 5,027 1,757 4,788
------------------------------------------------------
The company's defined contribution pension plan expense for fiscal year
2005 was $3.2 million (2004 - $3.1 million; 2003 - $3.0 million).
The following table shows the effect of a one-percentage point change in
assumed health care costs:
-------------------------------------------------------------------------
1% 1%
$000's Increase Decrease
-------------------------------------------------------------------------
Effect on other benefits - total service and
interest cost 556 (433)
Effect on other benefits - accrued benefit obligation 6,195 (4,946)
-------------------------------------------------------------------------
11. Income taxes
The consolidated effective income tax rate is as follows:
2005 2004 2003
% % %
------------------------------
Combined federal and provincial basic rates 33.2 34.2 35.8
Manufacturing and processing tax credits (0.5) (1.3) (2.6)
Surtaxes and other 7.8 7.3 6.5
------------------------------
Effective income tax rate 40.5 40.2 39.7
------------------------------
------------------------------
Future income tax assets and liabilities are recognized on temporary
differences between the financial and tax bases of existing assets and
liabilities as follows:
2005 2004 2003
$ $ $
------------------------------
Future income tax assets:
Property, plant and equipment - - 199
Other employee future benefits 14,425 12,896 9,406
Other 270 265 284
------------------------------
14,695 13,161 9,889
------------------------------
Future income tax liabilities:
Property, plant and equipment 844 308 -
Pension asset 5,020 4,860 6,073
------------------------------
5,864 5,168 6,073
------------------------------
Net future income tax asset 8,831 7,993 3,816
------------------------------
------------------------------
12. Commitments
In the normal course of business, the Company and its subsidiaries have
commitments in respect of capital expenditures, purchase of tobacco and
other obligations.
Commitments under operating lease obligations relate to fleet
automobiles, warehouses and offices. The following table summarizes the
payments due after March 31, 2005 for lease and other obligations:
$
----------
2006 12,787
2007 3,016
2008 2,726
2009 2,574
2010 2,474
Years subsequent to 2010 2,822
----------
26,399
----------
----------
13. Litigation, claims and contingencies
The Company and RBH are subject to a number of claims and potential
claims as described below:
- In February 2005, the QuDebec Superior Court authorized claims brought
by plaintiffs resident in the Province of QuDebec to proceed as a
class action against RBH, Imperial Tobacco Limited and JTI-Macdonald
Corp. The court authorized two class action proceedings; one
representing a class consisting of certain persons residing in QuDebec
who allegedly are or have been addicted to the nicotine contained in
cigarettes manufactured by the respondents, the other representing
certain persons who have allegedly suffered certain diseases as a
result of, smoking cigarettes manufactured by the respondents, as
well as the legal heirs of deceased persons included in the group.
The claims include allegations of failure to warn, addiction,
nicotine manipulation, advertising directed at young people, false
advertising and inadequate warnings. The claimants are seeking on
behalf of themselves and each class member general and exemplary
damages to be assessed and the establishment of a fund with the
object of limiting cigarette consumption, supporting medical research
into tobacco linked illnesses and reimbursing the Province of QuDebec
for certain health care costs incurred by it in treating these
illnesses.
- In January 2002, representatives of the Royal Canadian Mounted Police
(RCMP) conducted a search of RBH's business premises in connection
with an investigation into RBH's business records and sales of
products exported from Canada in the period 1989-1996. Illegal
smuggling of tobacco products into Canada occurred during the late
1980s and early 1990s coincident with the imposition by the federal
and provincial governments of significant new taxes and duties on
tobacco products. Such taxes and duties were, however, not imposed on
tobacco products exported out of Canada. In February 1994, in an
effort to curb the high level of smuggling of tobacco products into
Canada, the federal and certain provincial governments reduced taxes
to earlier levels. Exports of tobacco products by the major Canadian
tobacco manufacturers increased significantly from 1991 to 1994.
Although no action has been commenced and no charges laid against the
Company or RBH or any of its present or former employees, officers or
directors, the RCMP and the federal and provincial governments may be
considering commencing actions or laying charges alleging smuggling
of tobacco products. In February 2003, the RCMP filed criminal
charges against another Canadian tobacco products manufacturer and
related parties alleging violations of the Criminal Code (Canada) in
connection with the sale and export of tobacco products during the
early 1990's. In August 2003, the Government of Canada initiated a
civil lawsuit and in August 2004 the Minister of Revenue for the
Province of Quebec initiated tax reassessment proceedings against
this manufacturer and related parties seeking to recover taxes
allegedly owing in connection with the sale of such exported
products. In September 2004, this manufacturer was granted protection
from creditors under the Companies Creditors' Arrangement Act
(Ontario) and a stay of the civil proceedings brought by the
Government of Canada and the Minister of Revenue for the Province of
Quebec. In November 2004, representatives of the RCMP conducted a
search of the largest Canadian tobacco products manufacturer as part
of its investigations into sales of tobacco products exported from
Canada. The former federal Minister of Justice previously stated that
if the Government of Canada believes that it has sufficient evidence
to move against any company, it will do so.
- 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 (which has been stayed
pending the appeal of the legislation on constitutional grounds as
described below) was brought pursuant to the Tobacco Damages and
Health Care Costs Recovery Act (British Columbia), which purports to
facilitate individuals and the provincial government in suing tobacco
manufacturers. This legislation was enacted in January 2001,
following a successful challenge (decided in March 2000 by the
Supreme Court of British Columbia) by a number of tobacco
manufacturers of similar predecessor legislation enacted in 1998. RBH
and other tobacco product manufacturers challenged the constitutional
validity of the new legislation, however, in May 2004, the British
Columbia Court of Appeal, overturning a lower court decision, ruled
that the legislation was constitutionally valid. RBH and other
tobacco product manufacturers have been granted leave to appeal this
decision to the Supreme Court of Canada and a hearing is scheduled
for June 2005.
- In October 2002, the Province of Newfoundland and Labrador commenced
a reference case in the Newfoundland Court of Appeal seeking a
determination as to whether the Tobacco Health Care Costs Recovery
Act (Newfoundland) enacted in 2002 (but yet to be proclaimed in
force) is constitutional. This legislation purports to allow the
provincial government to bring an action against tobacco product
manufacturers for recovery of health care costs that allegedly have
been or will be incurred by the Province in respect of alleged
smoking-related illnesses. The Province also announced that it has
retained a U.S. law firm to assist the Province in bringing a claim
against tobacco product manufacturers for recovery of these health
care costs. The Province recently announced that it was withdrawing
its reference case and will await the decision of the Supreme Court
of Canada in the British Columbia action before proceeding with its
claim.
- In May 1997, a statement of claim was issued against RBH and Imperial
Tobacco Limited by a single plaintiff, Mirjana Spasic, in the Ontario
Superior Court of Justice claiming damages in the amount of
$1,000,000, reimbursement for moneys expended on the purchase of the
defendants' cigarette products and aggravated, punitive and exemplary
damages. The claim is based upon allegations of negligent and
intentional acts, spoliation, negligent misrepresentation, deceit,
conspiracy, product liability and breaches of express and implied
warranty.
The Company and RBH deny the allegations in the claims, pending and
threatened, described above and intend to vigorously defend the actions.
All of these claims and potential claims remain at an early stage and an
estimate of the loss, which might be suffered, if any, cannot be
determined.
14. Comparative figures
Certain comparative figures have been reclassified to conform with the
presentation adopted in the current year.
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