Vector Group Ltd (VGR) 2005 Q1 法說會逐字稿

Welcome to Vector Group's first quarter 2005 earnings conference call. Before the call begins, I would like to read a Safe Harbor statement. The statements made during this conference call which are not historical facts are forward-looking statements that are subject the to risks and uncertainties that could cause actual results to differ materially from those set forth or implied by the forward-looking statements. These risks are described in more detail in the Company's Securities and Exchange Commission filing.

Now I'd like to turn the call over to the President and Chief Operating Officer of Vector Group, Howard Lorber. Sir, the floor is yours.

Thank you. Good morning, everyone, and thank you for joining us on Vector's first quarter 2005 earnings conference call. With me today is Bennett Lebow, Chairman and CEO of Vector Group, Ron Bernstein, the President and CEO of Liggett Vector Brands and Liggett. On today's call, I will provide an overview of our business and Vector Group's performance for the first quarter. Ron will then review the performance of Liggett Group and Vector Tobacco for the quarter and provide an update on the transition to the new business model for Liggett Vector Brands that we discussed during our fourth quarter call. After that, we'll take your questions.

Industry conditions, while still challenging, continued to show signs of stabilizing during the first quarter. The pricing actions that were taken during the fourth quarter appear to be holding, and we continue to see more states, currently 42, passing the Alcabel [PHONETIC] share legislation. with a few notable exceptions, this, along with the tobacco quota buyout payment requirement, has led to increased pricing from the smaller manufacturers and importers. The price gap between premium and discount cigarettes continues to be in a range that appears comfortable for the Big Three companies. As previously noted, the net effect of all of this seems to be some signs of stability at retail.

As I referenced in the previous call, we are continuing to see aggressive retail trade programs from the two market leaders, at least one of which appears to us to be anticompetitive in nature. We continue to monitor these programs closely. If they do prove to be anticompetitive, we intend to seek appropriate remedies. Industrywide, total domestic retail shipments for the 12 months ending March 31, 2005 declined by 1.6% over the prior 12-month period, while first quarter 2005 retail shipments decreased by approximately 2.7% compared to the same quarter last year. We believe industry declines continue to run in a historical range for the industry, and that shipments to retail are generally more indicative of market performance than wholesale shipments, which are often affected by manufacturer pricing actions and wholesaler buying programs. Liggett's first quarter operating income was consistent with our expectations following our fourth quarter 2004 restructuring, and Ron will provide you with a full update shortly.

With respect to Quest, we continue to work on the development of a flue-cured tobacco without nicotine and anticipate another test crop to be grown later this year. If successful, we would be in a position to grow commercial quantities during 2006. We are pleased with the directional improvements in taste characteristics attained from our first test crop of low nicotine, flue-cured nicotine tobacco, and believe the new variety works well with our no nicotine [INAUDIBLE] tobacco. However, we still have more work to do and will provide further updates later in the year. In addition, we continue to work with the FDA, and they're in the process of doing the required research and regulatory filings necessary to eventually market Quest as a smoking cessation product.

We are optimistic about this process and continue to believe that FDA approval of a smoking cessation regimen is a key element to our long-term strategy, and we continue to work toward that goal. Now I will review the key financials for the three months ended March 31, 2005 for Vector Group, and Ron will review the key financials for our conventional cigarette business and our Vector Tobacco New Technology cigarette subsidiary. Our conventional cigarette business includes sales of both Liggett Group cigarettes and our USA brand cigarettes from the Medallion acquisition. In addition, for comparative purposes, we've excluded the discontinued operations in New Valley's Princeton, New Jersey office buildings, which were sold for 71.5 million in February '05, as well as New Valley's income from discontinued operations, which resulted from adjustments to tax accruals established in connection with New Valley's sale of Western Union in 1994 and 1995.

For the first quarter ended March 31, 2005, Vector Group revenue were 104.2 million compared to 126.6 million in the 2004 first quarter. The Company recorded operating profit of 18.6 million compared to 12.8 million in the 2004 first quarter. Our quarterly results in 2004 included pretax restructuring charges of 653,000. Net income from continuing operations was 8.3 million or $0.19 per diluted share in the 2005 first quarter, compared to net income of 4.5 million or 10% per diluted share in the 2004 period.

Now I will turn the call over to Ron Bernstein, the President and CEO of the Liggett Vector Brands and Liggett, who will update you on the performance of the operating companies.

Thank you. [INAUDIBLE]. For the three months ended March 31, 2005, our conventional cigarettes generated revenues of $101.6 million compared to 122.2 million for the corresponding 2004 period. Operating income for the three months ended March 31, 2005 was 31.9 million compared to 27.8 million for the 2004 period. The quarterly results in 2004 included pretax restructuring charges of $389,000.

For the three months ended March 31, 2005, Vector Tobacco's operating losses were 4.4 million compared to operating losses of 8.7 million for the prior year period. The quarterly results in 2004 included pretax restructuring charges of $264,000. Let me now turn to Liggett's first quarter performance in the marketplace and the early impact of our new business model. As a reminder, on October 6, Vector Group announced the restructuring of Liggett Vector Brands, our sales, marketing and distribution subsidiary. This cost-saving restructuring involves adjustments to LVB's business model and a significant realignment of the salesforce.

This resulted in the elimination of approximately 330 full-time positions and 135 part-time positions that become effective December 15, 2004. As you would recognize, this type of change was challenging across our Company, impacting both departing personnel as well as those being retained. In general, the restructuring process has been executed well, and we have accomplished our initial objectives in a timely manner. However the adjustment to the new retail calling patterns took longer to coordinate than we had scheduled; and, as a result, we did suffer some implementation delays into the first quarter, which negatively impacted first quarter shipments.

At the same time, we also saw an established MSA participant take a very aggressive national pricing posture on a deep discount brand during the first quarter. Based on the simple costs of doing business and expenses such as federal excise tax, the Master Settlement Agreement, the tobacco quota buyout and manufacturing, it is our belief that this Company is currently selling cigarettes below cost and cannot sustain this price level indefinitely. Nevertheless, their actions and the performance of that brand also impacted us, along with the discount market in general, during the first quarter. For the first quarter, overall Liggett Vector Brands' wholesale shipments were down approximately 28% over the prior year period. This includes year-over-year declines of approximately 33.5% on Liggett Select, 8.4% on Eve, and 28.5% on Tourney.

I will discuss our retail shipments momentarily, but it is import to recognize that our wholesale shipments in the first quarter were adversely affected by the following: Timing issues related to large year-end wholesale industrywide purchases in response to and in anticipation of pricing actions associated with the tobacco quota buyout; slower than normal wholesale inventory turns related to decreased volume levels associated with our new business model; and lower consumer velocity at retail than we anticipated due to the implementation delays discussed previously. Despite this, retail shipments as measured by Management Science Associates, which again are more closely related to actual consumer sales fared far better than wholesale shipments, with their overall Liggett Vector Brand retail shipments down by 19% over the prior year period, including declines of 17.7% on Liggett Select and 5% on EVE.

It is important to note that a component of our revised plan was the tradeoff of volume for higher margins across all brand families and a lower expense base. This has, in fact, been realized, as evidenced by the earnings increases year over year. An important component of our first quarter earnings improvement was SG&A expense, which declined by approximately $9.5 million compared to the same period last year. Importantly, as we have addressed implementation and competitive challenges at retail, our product shipments to stores have been extremely stable over the past six weeks and have recently shown upward movement.

Liggett Select continues to perform well in our core independent accounts and new major retail chains. We anticipate that its sales will continue to further improve as the year progresses. Turning to Eve, this brand has been an early beneficiary of our core independent account focus, and has recently resumed its growth trend. We expect that trend to continue throughout the year. The other important component of our revised business plan was the development of the partner brand category. As a reference, partner brands are long-term contractual relationships with major retail chains that provide our partners pricing guarantees on proprietary brands over an extended period of time.

As you may recall from our last call, Montego was the first brand to be launched in our new partner brand category. Our partner with Montego is Couche-Tard the parent company of Circle K and Mac's stories. This launch has progressed very well, and both parties are pleased with the initial results. I am pleased to announce that we have recently reached agreement with Speedway SuperAmerica, our long time partner on the Tourney brand, to extend our relationship on a multi-year basis and convert Tourney to a partner brand. We are delighted to have the opportunity to continue to work with Speedway, one of the premier gas and convenience store retailers in the United States, and we are committed to working with Speedway to help grow the Tourney brand and their business overall.

I'm also pleased to announce that we have recently reached agreement with another premiere retail chain to provide them with their own proprietary partner brand. We anticipate that this brand will be launched in the next few months, and we will announce the details in conjunction with that launch. In addition, we have several other partner brand proposals in discussion and are in the process of adding approximately 1400 stores related to smaller chain accounts that fall under our regional partner brand category. We believe that the marketplace enthusiasm that partner brands have generated and the early success of the strategy validate the approach We look forward to long-term growth and new profitability from this category as we execute our plan.

As Howard indicated, we continue to see signs of increasing stability within the industry. With Alcabel [PHONETIC] share having passed in 42 of the 46 MSA states and several MPMs looking to become part of the MSA, we anticipate that these trends will continue. We also believe that our model of stability and pricing control will enable Liggett's Vector Brands to maximize its profit potential in the changing environment. However, I must again caution that the potential for short-term volatility and risk remains in the marketplace. As indicated previously, companies can take actions that appear to be contrary to their long-term interests, and companies put under pressure may take desperate measures that adversely affect marketplace conditions in the short term. Given the ongoing discount pricing actions of the MPMs and certain SPMs, combined with PM and Reynolds American's restricted retail program, we anticipate that the market will remain demanding in 2005.

However, we also believe that we have positioned ourselves well by adjusting our business model, and we remain both optimistic and excited about our Company's prospects for 2005. Thanks for your attention, and back to you, Howard.

Thanks, Ron. Before I finish the prepared remarks, the Company once again reaffirms that our cash dividend policy remains the same. Now, operator, would you please open the call for questions?

Thank you. The floor is now open for questions. If you do have a question, please press star 1 on your telephone keypad at this time. If at any point your question has been answered, you may remove yourself from the queue by pressing the pound key. We do ask that while you pose your question, please utilize your handset to provide optimum sound quality. Once again, that is star 1 for any questions at this time. One moment while I poll for questions. Thank you. Our first question is coming from Joel Luton with APS Financial. Please go ahead.

Good morning. This question is I guess directed toward Ron. Can you identify who the MSA participant that was aggressive in the pricing action?

You know, I'd rather not get into the specifics, but it's a legitimate national competitor.

Okay. And do you have any feel for the sustainability of that aggressive action? You know, can they do that for a long period of time, or do you think it's more of a temporary phenomenon?

I personally, as I indicated, do not believe that it can be sustained indefinitely. The reality is is that in this marketplace, anybody can go in at predatory type of levels and pick up some share. The problem with it is it's impossible to do it without damaging other business, including some of your own. So I really doubt it's possible for them to sustain it indefinitely.

Okay. And with your decline in shipments in the quarter, does that indicate that, you know, in future quarters that the shipments should reverse and kind of pick up as inventory rebuilds?

Yes. I think what you're going to see is two things. First is that -- is that in general, we anticipate declines year over year as part of this new business model. However, the declines in the first quarter were exaggerated based upon the things that I indicated before. So yes, I would anticipate that we would see upward movement.

Okay. And one more question directed toward either Ben or Howard. You know, in April you all did a -- I guess a $30 million add-on piece on convertible debt. And, you know, I guess, with the conversion feature, I guess my question is is, why do you all feel like it is necessary to keep on issuing this stuff with the potential dilution for the equity holders? You know, I look at this. Your situation, it doesn't seem like you all need the cash, and you know, I know in earlier discussions that you all have indicated it's your intent to pay down debt. And I'm not sure why taking on more debt is needed.

Well -- it's Howard Lorber. Hi, Joe.

Hi, Howard.

The rationale was actually, you know, we weren't out in the market trying to do it. They came to us. We thought the premium to the current market price was a good premium. And you know what? In this business, we always need extra liquidity if there's a case that's lost and we have to post a bond. So far, we've done well on litigation, but that always one thing. And number two, during a whole strategy of try to increase our profits with the new Liggett Vector Brand strategy, we also want to maintain our -- you know, our dividend. So just having the additional liquidity we thought made sense. We didn't think the dilution was that bad and we thought it made sense.

Okay, guys. Thanks.

Thank you. Our next question is coming from Andrew Shapiro with Lawndale Capital. Please go ahead.

Hi. A few questions here. Actually, the prior caller just mentioned a question about the cash and actually, I -- you consolidated the balance sheet here, and it looks like 70% of the cash or 110 million of Vector's consolidated cash actually is New Valley, and that's about $5 a New Valley share. One, I wanted to understand if that my -- my back of the envelope analysis here is correct and wanted to understand when any investment company act issue might kick in again as a risk for the deployment, and what your thoughts are in redeploying the New Valley cash. Are you seeing opportunities?

Yes. You know, we are just starting to begin to see opportunities. We're not seeing any opportunities in the real estate end of it for New Valley, because prices are so high. And we've looked at some development site, you know, sort of evaluated stuff. And as you know, we were a seller with our office building, so we thought we got a tremendous price. But you know, we do think there will be things coming up. You're right, I think your back of the envelope analysis is right. B.K. do you agree with that number?

About 110 million is cash your 160 ?

Well, [INAUDIBLE] of the 161 is at the New Valley level, and the New Valley level does include marketable securities of 11.1 million shares of [INAUDIBLE] financial care services and they were carried at 7.6 million at March 31.

So both the cash is down at New Valley. That raises one of the questions depending on deploying New Valley and possibly New Valley's dividend policy of upstreaming cash into Vector. Do you feel there may be a need to do that, if you want to maintain the Vector dividend at all?

No. We don't have any thoughts of doing that at this particular time. Obviously, it's always available, but we're not considering that at this particular time. Also, let me go back to your investment company asset problem. We don't believe we have any issue now. We have the Douglas Elman at the operating subsidiary, which is doing very well, and that value is pretty substantial at this point. So we don't have any [INAUDIBLE] issues at this point.

So it doesn't have to be to the point of consolidating [INAUDIBLE] at New Valley to avoid it?

No. No, we -- Douglas Elman is a good asset, the way [INAUDIBLE] purposes. And when we made the investment in it, we made sure it wasn't.

Okay. So now we have all this cash, 100 million, $110 million almost, and pretty much the bulk of the New Valley share price. You're not looking to do possibly what you've done in the pass, because real estate is on the high end and you're selling, and you're selling high and trying to buy low. Is there any type of focus or emphasis on where the capital might get redeployed or you're looking into?

We look at deals every day is all I can tell you. Every day there's a different deal, and we're trying to be safe. If there's something that's very exciting, yes; you know, a risker type of situation would we invest some money in it? Yes. We wouldn't invest 110 million in it, but we would invest some. And we see a lot of deals, and it's just a matter of picking through them. You know, again, just to go back on the real estate, when we bought Princeton, everyone thought it was ridiculously overpriced, you know, but it became more ridiculously overpriced. So I'm not saying we're out of the real estate market because things are overpriced. It's just a matter finding the right deal.

Right. Now the Hawaiian Hotel has now kicked in and start to go ramp up and run into a little steam. What is your business kind of strategy or thoughts on that as an investment? You're a minority -- when I say a minority, you're not managing partners in that deal. Is that something that is kind of like you were a venture partner that will then monetize once it's up and running, or is something that's a longer term focus?

No. The plan -- the plan always was to try to get our -- at least our capital back as soon as possible after the hotel was up and running. So my thoughts are that sometime in the not too distant future there will be some event which will give us back our capital.

Right, and then you might have some residual interest that still rides with it?

Correct. That's correct.

Excellent. Last question, again, me consolidating -- and this is certainly back of the envelope attempting to do a tax assessment, et cetera, of the New Valley results from the Vector results to understand Vector on a year-over-year basis. If I look through your income statement, the gain on the Ladenburg conversion, which was previously a fully written off investment that had to be monetized out of the dividend, about 9 1/2 million, tax effective -- again, back of the envelope -- is a little over 5 million, maybe 5.5; and then the gain on the disposal of discontinued ops, that's your Princeton buildings again. That's a New Valley item. That's about 3 million and that's net of taxes. So if I back in to -- out those items, that's about $8.5 million off of the 11.3 of net income you reported for Vector. And again -- you know, I'm kind of doing back of the envelope.

I don't that's correct.

No it isn't, Andy. The total number is 6.3 million. The Ladenburg number, after you back out the minority interest and income taxes, it's about 3.4 million, and then 3 million relates to the gain on the sale of the office buildings , and the total is 6.3.

Okay. So 6.3 off of your 11.3, you're getting basically year over year slightly improved performance at Vector;, isn't that right

Yes. That sounds right.

Okay. So at least it wasn't down?

Correct. All right thank you very much.

The operating income is up $6 million year over year.

Right.

Right

Right. So -- but with between operating income and net income are -- much of those fees get lost [INAUDIBLE, AUDIO FADING] tax rate or something else?

Right. It's in the tax rate and interest expense and other flow-through items. And, Andy -- Andy, in other flow-through items from New Valley.

Right. Okay. So there's improvement. It's just not a deterioration year over year, so that's good for Vector.

Correct. Thanks.

Thanks.

Thank you. Once again, I would like to remind the audience, if you do have a question, please press star 1 on your telephone keypad at this time. Our next question is coming from Mark McManan [PHONETIC] from Wachovia Securities. Please go ahead.

Good morning, guys, how you doing?

Hi.

Hi, Mark.

Back to the shipment disruption that took place in the first quarter, would you be able to quantify what level of disruption took place in terms of sales? Or volume?

Let me qualify. I don't know that disruption is the right word. I think there were several factors that occurred on the wholesale side, Mark, the biggest of which was that the -- there was about a billion unit increase year over year in wholesale inventories for the industry, which related to many wholesalers going long on product, anticipating that there were going to be more increases relative to the price actions related to the tobacco quota buyout. So inventory levels went up on an industrywide basis. Now, that happened at the same time that we were stepping into a situation where our industry -- our inventory levels would ultimately start declining because we were looking to a lower volume model than what we had previously with higher margins.

And then in addition to that, the implementation delays that happened at the end of the year involved the process of dealing with an existing sales force that needed to be outprocessed by some of the people who were then charged with picking up the ball for those people, and so the process of getting through in the first round of customer calls ended up taking a longer period than we had originally anticipated. So all of those factors added up. So in essence on the wholesale side what you had was pretty much a deloading, if you will, over the first quarter, as our inventory level requirements went down because of the volume decreases associated with our plan. Then if you look at the retail shipments, we were right in the range of what we anticipated in the first quarter from a retailer's perspective.

So the range of difference really is between what the retail shipment decline was and the wholesale shipment decline, and that added up to, you know, what you qualified as the disruption in the shipments.

Okay. All right. But you indicated earlier on a different questioner that that has been ironed out, the sales force has been able to get up to speed with existing customers?

In fact, as I indicated during the call, that we've seen that situation dealt with. Inventory shipment levels have been stable -- or stabilized about six or seven weeks ago and have been on an uptrend since then.

Okay. Final question. And this one's, I guess, sort of a general, you know, company direction. Recently, there's been some press regarding the Department of Justice case as a remedy of spinning off the research and development arms of certain -- you know, Phillip Morris, whatnot, to speed up the process of developing less hazardous or safer cigarettes into the marketplace. It's been now about four years since the original launch of Omni. When can we anticipate knowing we're getting a quantified result to the effectiveness of Omni in the marketplace? I know there's a lot of people think out there that every year are thinking, well, this is the year we're going to know what we have in Omni. And when do you guys anticipate -- because you have studies ongoing -- to have a deadline? That have sort of the bench marks that have to be met to judge results and or to judge progress? When will you guys in a position to be able to share that progress with us?

I mean, the fact is, we are working on. You know, we've really come to the conclusion that it's a combination of two factors. Number one, what you have, and number two is what you could say. You know, that created a lot of difficulties, especially with the state Attorney General. So we basically said that, you know, we're not going to come out with an Omni product unless we believe we have some sort of approval/guidance from the FDA that we could make a claim that we believe then makes it marketable. And if you realize, you know, Phillip Morris every year they say they're going to come out at the end of the year, you know, with a low-risk product or less risky product, and every year they don't come out with it. It gets delayed. They're going through the same thing, and it's in testing. And my guess is, you know, we're probably -- we're still doing our testing. We believe we're making progress, and it's probably a couple years away until -- I mean, until something happens. And maybe that could change if, you know, FDA gets jurisdiction. I mean, there's all sorts of moving pieces; but it's something that's probably a couple years away.

Well, just on the point that you just made, that, you know, there's moving pieces and whatnot, do you primarily attribute to the years away to a lack of regulatory authority in this area, or do you actually have any results that you think can force the issue upon the marketplace? Are you waiting for the FDA to be granted authority by the U.S. Senate, or are you waiting for results to be so overwhelmingly convincing that you don't need, you know, the FDA. You can go directly to the marketplace and say, you know, we have what we have?

Mark, this is Ben.

Yes.

How are you doing?

Good.

First of all, you can't go to the marketplace with any claim at all, period. End of subject. [INAUDIBLE] legislation without. We have to have FDA approval to make any sort of health claim. That's current law. Nothing to do with any new legislation. So we have to deal with the FDA. And as far as time is concerned, you know, you talk about signs, which is very difficult to estimate the time, but we're hopeful -- and I'll use a hopeful word -- that this year we can start having some serious conversations with the FDA. That's about as far as I think we can go right now.

Okay. All right, thank you.

We get some real positive results, we will start having serious conversations -- initial, serious conversations with the FDA.

And that could -- but may not -- but could potentially be taking place this year?

Sometime later this year, yes. That's our hopeful goal; but again, you're talking science, and it could get delayed and so forth. And of course, once you start with the FDA, you know, then as far as getting a commercial product, that's additional years away.

Sure. Okay. All right. Thank you.

Thank you. At this time I'd like to turn the floor back over to Mr. Howard Lorber for any further closing remarks.

Thank you, operator. Thank you all for attending this conference call. As usual, we're always available if you need us. Thank you, everyone, and have a good day.

Thank you. This does conclude today's teleconference. You may disconnect your lines at this time, and have a wonderful day.