Vector Group Ltd (VGR) 2005 Q3 法說會逐字稿

Welcome to the Vector Group third quarter 2005 earnings conference call. Before the call begins I could like to read the Safe Harbor statements. The statements made during this conference call which are non historical facts or forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially from those set forth or implied by forward looking statements. These risks are described in more detail in the Company's Securities and Exchange Commission filings. Now, I would like to turn the call over to the President and Chief Operating Officer of Vector Group, Howard Lorber. Sir, you may begin.

Good morning and thank you for joining us on Vector's third quarter 2005 earnings conference call. With me is Ron Bernstein the President and CEO of Liggett Vector Brands and Liggett. On today's call I'll provide an overview of our business and review Vector Group's performance for the third quarter. Ron will then discuss the performance of Liggett Group and Vector Tobacco for the quarter and review the progress and results we're seeing after last years restructuring. After that we'll take your questions.

But before we discuss our performance I wanted to say a few words about another development at Vector Group. As you're surely aware Vector's made a premium offer of $9 per share in Vector Groups stock for all of the outstanding shares of New Valley that Vector does not already own. On October, 20, Vector announced that we have commenced this exchange offer under which we're offering New Valley share holders .416 shares of Vector common stock for each outstanding share of New Valley they own. The exchange offer is designed to be tax free.

While we were disappointed by the new Valley's special committee's decision recommending against our offer we're eager for New Valley's share holders to make their own determination on the merits of our offer. But let me emphasis that do to a 90% tender requirement it's highly unlikely that Vector will be able to close this transaction unless all significant New Valley shareholders tender into the offer. To be clear if the 90% tender requirement is not satisfied there can be no second step short for a merger and thus no appeasal rights. Because of the current nature of this exchange offer there's not much more we can see about this matter at this time.

Now onto our results. Let me say I'm pleased to report that Vector Group had another strong quarter operationally which follows the positive second quarter we discussed on last call. Importantly we again translated this strong performance into an improved bottom line. In a somewhat more stable industry environment we continued to generate revenue growth and benefit from our reduced cost base. As a result we were able to increase operating income at our conventional tobacco business by 17% on an apples-to-apples basis. We remain confident that the restructuring steps we undertook last year were the right strategic actions for our business and we're continuing to see the positive impacts of those efforts.

As noted industry condition have been somewhat more stable but still remain challenging during the third quarter. Recent pricing actions by Philip Morris and Reynolds American, in the form of reduced consumer buy downs, have held and there appears to be continued confidence in premium pricing power among the big three companies. A major factor in that confidence is that 44 of the 46 MSA states have now passed allocable share legislation closing a major MSA loop hole that the non participating companies have exploited over the past five years. Currently Missouri and New Jersey are the only participating states that have not enacted allocable share legislation although it is anticipated that these states may pass legislation next year.

The allocable share legislation along with the tobacco quarter buyout that went into effect earlier this year is continuing to level the discount playing field by driving price increases from many of the smaller manufacturers and importers. These small manufacturer price increased have reduced price gaps between premium and discount cigarettes to a point where we believe the big three are relatively comfortable with price differentials. The net effect of all of this seems to be reflected in the growing stability of retail.

At the same time the two market leaders are continuing to aggressively promote their retail trade programs and we continue to be concerned about potential anti-competitive elements to these programs. As we get closer to the end of the year, we expect the big two will introduce new programs for '06 and we intend to review and monitor these programs as they develop. If they prove to be anti-competitive, as always, we'll consider appropriate remedies available to us.

Industry wide total domestic wholesale shipments for the 12 months ending September 30, 2005, declined by 1.9% over the prior 12 month period. And third quarter 2005 wholesale shipments also fell by approximately 1.9% compared to the same quarter last year. It appears that shipment declines continue to run in the historical range for the industry and we expect that trend to continue.

In the still changing environment we again were pleased with the financial results of our conventional cigarette business during the third quarter. We continue to strengthen in the quarter and have gained positive traction from the steps we've taken to improve performance after facing some restructuring related transaction issues early in '05. Ron will provide a more detailed update shortly.

With respect to Quest we continue to work on the development of a flue-cured tobacco without nicotine, although as previously reported we do not anticipate growing another full cured test crop until the spring of next year. Therefore the earliest we would be in the position to grow commercial quantities will likely be spring of 2007. We are pleased with the improvements in taste characteristics obtained from the first test crop of low nicotine flue-cured tobacco and believe the new variety works well with our no nicotine Burley tobacco. However, as I previously noted we still have more work to do and we'll provided further updates as we proceed.

In addition we continue to work with the F.D.A. and are in the process of doing the required research and regulatory coordination necessary to eventually market Quest as a smoking sensation product. We remain optimistic about this process believe that we will complete the F.D.A. approved phase II clinical trial early next year. We expect to be in a position to provide a more comprehensive update on our findings and expectations during the first quarter of '06.

Now I will review the key financials for the three and nine months ending September 30, 2005 for Vector Group. And Ron will then review the key financials of our conventional cigarette business and our Vector Tobacco new technology cigarette subsidiary. Our conventional cigarette business includes sales of both the original Liggett Group Cigarettes and our USA brand cigarettes from the Medallion acquisition. In addition for comparative purposes, we've excluded the discontinued operations of New Valley's Princeton, New Jersey office buildings which were sold for $71.5 million in February of '05.

For the third quarter ending September 30, 2005. Vector Group revenues we're $125 million, compared to $124.3 million in the 2004 third quarter. The Company recorded operating income of $20 million, compared to operating income of $16.7 million in the 2004 third quarter. Our quarterly results in 2005 include a special one time assessment of approximately $5.2 million from the United States Department of Agricultural for losses associated with the sale of stabilization tobacco inventories related to the tobacco quota buyout program. The 2004 quarterly results including $4.5 million in restructuring charges. Adjusting for the special assessment on the restructuring charges, the Company's operating income for the 2005 third quarter was $25.2 million as compared to $21.2 million for the 2004 period an increase of 18.8%.

Net income from continuing operations was $9 million or $0.19 per diluted share in the 2005 third quarter, compared to net income of $8 million or $0.17 per diluted share in the 2004 period. For the nine months ending September 30, 2005, Vector Group revenues were $342.3 million compared to $370.9 million in the first nine months of '04. The Company reported operating income of $63 million compared to operating income of $3.7 million for the 2004 period. Our result for the nine months ended September 30, 2004 included a pretax non -cash charge of $37 million related to the write down of our Quest tobacco leave inventory and restructuring charges of $7.5 million.

Adjusting for the inventory and restructuring charges the Company's operating income in 2004 nine months was $48.2 million. Therefore, the results from the 2005 nine month period adjusted for the special assessment of $5.2 million represented an increase of $20 million of operating income from the adjusted amount for the 2004 period. That's an improvement of 41% year-over-year.

Net income from continuing operations was $27.2 million or $0.59 per diluted common share compared to a net loss of $4.6 million or $0.11 per diluted common share in the 2004 nine month period.

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

Thank you, Howard and good morning, everyone. Before I discuss performance at our tobacco business I would first like to extend my congratulations to Howard, who as you know has been named the Chief Executive Officer of Vector Group effective January 1, 2006. Howard has been working with Vector since 1994 and is currently the Company's President and Chief Operating Officer, as well as a director. We look forward to Howard's continued insight and leadership. I'm also extremely pleased to note that Ben has been named Executive Chairman of Vector Group and has entered into a new three year agreement with the Company. This assures that Ben will continue to work closely with Howard, me and and the rest of the management team and we will continue to benefit from his knowledge and experience.

We are all excited about continuing to collaborate and to enhance value for all Vector Group shareholders. Turning to our business results, first, I would like to echo Howard's comments on the quarter. Following last year's challenging restructuring, we were pleased to again generate solid sequential growth in our shipments, significantly improved profits at our conventional tobacco business and continued stable performance at Vector Tobacco. We believe these results demonstrate that our strategy is working and that our business is on the right track for the future. For the three and nine months ended September 30, 2005 our conventional cigarettes generated revenues of $122.7 and $334.6 million compared to $120.8 and $358.6 million for the corresponding periods a year ago.

Operating income for the three and nine months ended September 30, 2005 was $31.5 million and $97.7 million compared to $27.2 and $80.4 million for the 2004 period. As Howard mentioned, the 2005 quarterly and nine month results included a one time unexpected assessment of approximately $5.2 million from the United States Department of Agricultural for losses associated with the sale of stabilization tobacco inventories relate to the tobacco quota buyout program. The quarterly and nine months results in 2004 included restructuring charges of $4 million and $6.3 million respectively. Adjusting for the third quarter 2005 assessment and the 2004 restructuring charges, operating income for the three and nine month periods ending September 30, 2005 was $36.6 million and $102.8 million compared to $31.2 million, and $86.7 million for the 2004 periods. While we and many others in the industry strongly disagree with USDA's handling of this assessment and are challenging it, both in court and through administrative procedures, we have booked the full assessment in the third quarter. This treatment is consistent with that of other in our industry that have previously reported third quarter results.

For the three and nine months ended September 30, 2005. Vector Tobacco's operating losses were $4.1 million, and $11.3 million compared to operating losses of $3.6, and $56.8 million for the prior year periods. The quarterly and nine months results for Vector Tobacco in 2005 include an approximate $70,000 one time charge relating to the USDA tobacco quota buyout. The quarterly and nine month results for Vector Tobacco in 2004 included pretax inventory impairment and restructuring charges of $564,000 and $38.2 million respectively.

Let me now turn to Liggett's third quarter sales performance and the on going results from our lower cost business model. As a reminder during the fourth quarter of 2004, Vector Group announced the restructuring of Liggett Vector Brand our sales, marketing and distribution subsidiary. This cost saving restructuring involved adjustment to LVB's business model and a major realignment of its sales force. This resulted in the elimination of approximately 330 full-time positions and 135 part-time positions that became affective December 15th of 2004. I'm pleased to report that we continue to benefit from the changes to our business strategy. In addition, we had a number of positive new developments during the third quarter, which I'll discuss in a moment.

As previously stated, the passage of allocable share legislation in 44 states has generally led to increase consumer prices in the deep discount segment. It is important to note that deep discount segment prices continue to vary significantly on a state by state basis and remain subject to volatility based upon the action of both non participants and participants to the MSA. Despite this, we are seeing trends that represent a more stable pricing environment then we have seen for some time. During previous calls, I mentioned that a national market competitor had taken aggressive pricing actions on a deep discount brand. Recognizing the recent volatility of the marketplace, Liggett Vector Brands maintains spending flexibility entering the second half of the year and during the third quarter we used that flexibility to implement a national expansion on our Grand Prix brand.

Grand Prix is being marketed as the nations lowest price fighter brand. And is currently the fastest growing brand in the country. Like all Liggett Vector Products Grand Prix offers premium quality with best in class value pricing. Overall, Liggett Vector Brands third quarter 2005 wholesale shipments increased by 15.1% compared to second quarter 2005 shipments. Liggett's select shipments increased by 1% and Eve shipments increased by almost 6% during the same period. On a year-over-year basis, third quarter 2005 wholesale shipments were essentially flat compared to the prior year period. This compares favorably to the year-over-year declines of 15.7% and 28% during the second and first quarters respectively. This also reflects the stabilizing trend that we had predicted on year-over-year volume results as the year progressed.

The trend of increasing operating earnings also continued during the third quarter with earnings growth of 17.4% or $5.4 million over the prior year period. When adjusted for the previously mentioned one time USDA assessment and the 2004 restructuring charge. We continue to realize significant savings from the reduction of SG&A expense, which decreased by 29 .2% or $6.2 million over the prior year period. For the nine month period, we have reduced SG&A expense by 39% or $25.1 million compared to the first nine months of last year. Importantly, the adjustments that we made last year have given us the financial flexibility to meet market pricing requirements while still substantially improving our financial results. That was one of the key goals of our restructuring and the early success of Grand Prix clearly reflects the progress made in improving our competitive position.

Liggett's select's performance remains strong during the third quarter among our core independent accounts and new major retail chains. And we have now recognized volume growth on Liggett Select over the past two sequential quarters we expect relatively stable activity on Liggett Select through the remainer of the year and going forward. Our core Eve's brands performance has been solid throughout the year and we continue to plan for growth on Eve into the foreseeable future.

Looking at other key components of our business first as previously advised we reached agreement earlier this year on a new multiple year private label agreement with Speedway Super America on the very successful Tourney brand. Second as you will recall another important piece of our revised business model 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. On previous call, I have discussed the launch of Montego, a premium quality brand being offered with value pricing exclusively at Circle K and Mac's Stores. And highlighted that we have been successful with other retailers with our strategy.

Today, I'm pleased to announce additional details two new partner brand agreements. In October, we entered into a multi-year partnership to produce the Silver Eagle Brand exclusively for Sunoco corporation. Silver Eagle is now available in over 800 Sunoco stores nation wide and represents an ideal combination of product quality and value pricing. We are very excited to partner with Sunoco one of the premier gas convenience retail chains in America. I'm also pleased to announced that we have recently reach agreement with Quick Trip another premier gas convenience retail chain to produce the Bronson brand. A brand that has been manufactured for the past few years by Phillip Morris USA. With over 400 retail locations in nine states we are excited to enter into this partner brand agreement with this leading convenience retailer and expect to launch the Liggett manufactured Bronson product at the end of the first quarter 2006. Clearly, our partner brand strategy is proving effective and has great appeal due to the quality and price stability it is offering to our partners. We remain confidence that the category will provide long-term volume and profit growth for LVB.

In conclusion, I would like to say that while the market, particularly in the discount segment, is still volatile and risks remain we continue to see signs of increasing marketplace stability as reflected in our third quarter results, we believe that Liggett remains well positioned to benefit from that stability and we are optimistic about our Company's prospects for the remainer of the year and beyond. Thanks for your attention and back to you, Howard. Howard?

Hi, thanks, Ron. The Company once again would like to reaffirm that our cash dividend policy remains the same. Now operator, would you please open the call for questions.

Thank you, at this time, the floor has now been opened for questions. [OPERATOR INSTRUCTIONS] Please hold while we poll for questions. The first question is coming from Joe Luten of APS Financial.

Yes, Howard, I have a question. This is kind of a type question. New Valley still has an equity position in Ladenburg Fallman, correct?

Yes.

I know that they've kind of hired additional people there that are incentivized do you have any insights on exactly what their strategy is.

Well, I mean -- obviously they're trying to build the business back up. They were way down in revenue and the firm had really shrunk and now I think they're trying to grow they've announced a potential acquisition. They signed a letter of intent to buy a small institutional firm, Fulcrum advisors. From what I see they're pack in the IPO market. In fact they did one recently that was pretty successful and they're have a $200 million SPAC coming out in about two weeks. So obviously they've hired bankers and trying to build -- trying to increase the money management end of the business, build up the fee business and trying to build the revenues at the firm.

Okay. Does New Valley have any active role in that or are they just kind of a passive investor?

Well we're passive. I'm the chairman and I do meet with them and Phil Frosts who is the other big shareholder is very involved in it. So we're all doing everything we can to make it it a success so we have a better stock price.

Okay, thanks.

Thank you, the next question is coming from Mitch Penders RBC Dain Rauscher.

Hi, guys just a quick question regarding the tobacco buyout quota. Do we have an idea how much and how long this will go on or is this a one time hit and we're done?

The 5.2 incremental is a one-time hit. There were two buckets to the tobacco quota buyout. It was $9.6 billion, which is the core buy out itself, and then there was a provision for up to another half a billion that related to potential losses in the sale of tobacco stocks that were on hand at the time of the buyout as well as for some administrative costs and a few other smaller items. What the USDA did was they aggressively moved to sell the tobacco quickly. Sold it at pretty low price and rather than assessing it over the course of the buyout, which was what everybody had expected, and what they had reflected in the first two quarters. In the third quarter they suddenly billed the entire amount of that loss. So it cannot continue beyond the quarter because it now takes care of the amount in that bucket and the rest of it is by statute to be paid over the ten year period.

I see. And just for reference, what were the comparative amounts paid by some of the larger manufacturers?

I have that here somewhere. $138 million for Phillip Morris and I think it was $70 some odd million for RJR.

Okay. My last question relates to market share. I don't recall seeing any market share numbers. I may have missed them but can you give us an idea of where you stand with that and how close you are to the exemption?

We're at -- our market share is about 2.2% and the estimation is that we are well positioned relative to the exemption.

So you're not exceeding the exemption.

Not at this point. We likely will exceed it by some portion during the fourth quarter.

That's due to your organic growth?

Yes.

You never can figure it exactly, Mitch, so you want a plan to have a budget where you exceed the exemption because the worse thing is to not get to the exemption and lose that cap benefit. So I guess you always want to come up a little bit higher than the cap benefit.

And we have over the last several years.

And obviously your fixed costs are already built into your overhead, basically. So when you do exceed it, where do your margins lay out?

In terms of the -- when you get past the MSA cap benefit, the margins go down to a pretty small level. But they still are a positive margin.

Very small, Mitch, you don't pick up a lot. You could basically -- you help yourself a little bit in your manufacturing cost and so forth but there's no big profits right now the way the marketplace is, the way the pricing is amongst the discounters there's not much of a margin above the cap benefit. We hope, we always hope for the fact that as things stabilize and all this legislation is pass that you get rid of the real small guys who are pricing really low and eventually you end up with some margin there.

That's a core element to our long term plan relative to partner brands as well as in the introduction of Grand Prix.

Can I ask how are the smaller manufacturers profitability engaging in this business?

Well, I think what's happening is as the allocable share legislation has passed. The potential for these small companies, particularly the non participant to generate margin doesn't exist. And I think we're seeing some significant declines relative to the NPM volume. If you recall over the course of the last couple of years, they had very substantial growth going back into 2001 pretty much through 2003. In 2004, that growth abated and started to decline in the second half of the year and we've seen consistent decline since them. While some of them have fought to try to maintain their benefits they've been unsuccessful to date.

Okay. Thanks, gentlemen and nice quarter.

Thank you.

Thank you, the next question is coming from Andrew Shapiro of Lawndale Capital.

Hi, thank you. I think the New Valley Q came out last night but the Vector Q and the balance sheet just came out as the call was in progress. So I didn't have a chance to look at it. Hope you would help me out with a few items since you guys know what was in it. What is your cash balance at Vector net of the New Valley cash at end of this quarter. Deconsolidating that.

BK do you have that?

Vector had $178.6 million of cash and marketable securities and that included $108.4 million of New Valley. So net cash position was $70.2 million between Vector, VGR and the tobacco subsidiaries.

Okay great, thank you on that one. And then on the S4 for the Vector stock registration on page 13 or so, you guys talk about some issues here regarding Vector taxes, could you discuss the status of the IRS appeal. It's been out there for a while and I would be interested in knowing how long these appeals on this particular issue generally last and whether a resolution is forthcoming?

I think our tax lawyer on it probably thinks that it's going on to be very hard to resolve without going to court. And that I think his time table is that probably we're I think two years plus away. Do you agree with that BK?

Yes, we had a hearing that was delayed by Hurricane Wilma last week.

And does that mean that would be a year delayed or you have no idea?

I think if we go all the way we're not able to settle, I think we're talking two, two and a half years, B. K.?

Two years sounds right.

If you don't settle, okay. And then in the S4 it characterizes this potential expense as $124million net of tax benefits, which tax benefits are these because I think you also disclose that Vector really has no more NOLs,.

I think net of tax benefits means if we lose, we owe the money and the interest and I guess it's a tax benefit from the interest. Correct, B. K?

That's correct we would receive a tax benefit for the interest and any state taxes associated with the payment.

Okay. And does the IRS give you time to pay or is it required immediately?

It's whatever you negotiate. It you don't have the money I guess you work out a deal with them, like anything else. Obviously we hope we don't get there. We hope before it comes to the end of the line that we work out some sort of agreement with them.

Last question relates to the Douglas Ellaman, which flows through as an unconsolidated entity in New Valley and thus into Vector and that is we noticed that the Douglas Ellaman cash balances, their net cash balances as well as their regular cash balances, were up very nicely however, the expenses grew a bit faster than revenues where is Douglas Ellaman investing or where are their expense issues and are these one time or reoccurring in nature.

You know. Listen. The great bulk of the expenses are variable. So if you're saying they grew a percentage higher it could be because we have made some investments like for instance we have expanded into Brooklyn. We have new leases we haven't really got up and running where we're getting any substantial revenue, there's a few other new offices in Long Island. So my guess is any place you see where the expenses are up, and it hasn't produced revenues yet are the new areas that we're trying to expand into.

So those would be growth areas that obviously are just kicking in and not yet anniversary.

Exactly, exactly correct. And as it relates to cash. Basically we pay down our debt with our cash, quarterly.

Right it just raises the enterprise value towards New Valley --

Exactly.

And to Vector. Thank you, no other questions right now.

You're welcome.

Thank you, the next question is coming from Donald Lipkin of Bear Stearns.

Hi. Just two quick clarifications. Did you say that the decline -- the MSAI number is the decline in shipments for the third quarter and for the 12 months ending September 30th were both 1.9% decline.

For the industry, yes. Right. And then in terms of -- I got distracted at one point in the call so hopefully I'm not asking you a question that was already answered but I know this is really hard to estimate but if you had to estimate what the current NPM market share is today what would that with be? Its somewhere in the rage of 7.5 to 8%.

Really?

Yes.

Because it had been -- I thought it had peaked at around 8.2 or 8.4% back in '03 and then you had general tobacco join.

And let me qualify, general tobacco you'd have to take out of that so you would need to take about a point and a half. I tend to think of them as a NPM. So you would take that down to somewhere in the range, 6-6.5.

6.5. So it's stabilized but it hasn't really declined a whole lot.

Well, no it has declined because I think that they -- it peaked at a higher level then that. It really peaked around the middle of 2004 right at time that general came into the MSA.

I see.

And that's where it started to stabilize and then decline.

Okay. So it's coming down and obviously with the allocable share you're expecting it to continue to decline.

And as you pointed out at the beginning it's very hard to measure their volume because they don't report to MSAI and so that's as best as we can read it.

Okay. Thanks so much.

Thank you. Mark your line is live.

Oh, yes, Hi. Good morning, guys.

Mark, Hey.

Hey. A couple of questions, regarding the Grand Prix Brand. Could you quantify what you mean by fastest growing and what its average list price versus Liggett Select.

List price for grand prix is $9.99 a carton compared to $14.64 on Liggett Select. And obviously the rate of growth is almost exponential because it's coming off of a low base but from a volume standpoint it's as if we've seen some very, very significant input. And I think the quarter-over-quarter growth levels are ones that are reflected by the growth of Grand Prix.

Okay. So not anything that we can quantify at this point?

No.

Okay. A New Valley question. When or if this short form merger takes place what sort of synergies, cost savings would you guys estimate for 2006 that would drop down to the bottom line of Vector Group?

Say that again?

What sort of synergies do you guys expect to realize from the short form merger between New Valley and Vector that the shareholder base would realize in 2006.

Obviously accounting and legal, which you know is no small amount these days specially with Sarbanes-Oxley in accounting so it's probably a couple million dollars there. We really haven't gone through to see what else there is. The people are not going to change to any great degree so I don't think there's that much more as far as cost savings on the expense side.

But somewhere, you think, in the neighborhood of maybe a nickle, 10-cent a share. Perhaps.

Surely a couple of million dollars. Dick, would you agree with that number?

I think in the area of $1 to $2 million. I don't think it's really been. We haven't specifically quantified it.

I wouldn't be surprised if it's $2 million.

Okay. And if you had backed out this one time charge in the third quarter. That would -- I can't recall at the top of my head what we do with the shares outstanding is, but it would have added back in a what, an additional $0.10, $0.11 per share to your bottom line earnings number? Would it have all flowed right straight down?

The one time was $5.2 million. So B. K. what would that be?

I believe it was $0.07

After tax.

After tax. After tax. Okay.

About $0.10, $0.105 before tax $0.07 after tax.

So you would have made the $0.20 estimate that's out there on the street.

That's correct.

And lastly what's your current Quest volume and what its current pricing is.

Pricing hasn't changed on Quest and Mark, as you know, we don't report the volume on Quest.

Okay. All righty, thank you, guys.

Thank you, that does conclude today's Q&A portion. I would now like to turn the floor back over to to Mr. Howard Lorber for closing remarks and further statements.

Thank you, everyone we're all pleased on how the quarter went and how the year is going so far. If any of you have any questions we are always available to answer please call us. And we look forward to speaking to all of you again on our next call. Have a nice day.

Thank you that does conclude today's conference. You may now disconnect and enjoy your day.