Most cigar companies start out as entrepreneurial boutique companies, but now they’re big-time stock market fodder. What’s behind the M&A craze?

Ah, green fields of family-owned tobacco, grown and cultivated by hand, cured and rolled and boxed and delivered — on muleback, if need be, just to satisfy your 3 A.M. desire for a suitable stogie — to your local tobacconist: cigar smokers have long held to this dreamy vision, this small-scale utopia.

But cigars are, in fact, big business: large on the customer side, thanks to an astounding amount of media attention and subsequent rise in sales, and larger on the corporate end, particularly with this July’s $22 billion acquisition of Altadis, S.A. by Imperial Tobacco Group — considered by some to be the “last of the recent big mergers.”

Still, all this big-time M&A action is nothing new to the industry. In 1999, France’s SEITA bought Consolidated Cigar Corp. Then SEITA merged with Tabacalera, S.A. to create Altadis, S.A. That was all after Ron Perelman, via MacAndrews & Forbes Holdings, bought Consolidated twice. Once Alatadis, S.A. was established, the previous moniker of Consolidated Cigar was rebranded Altadis USA. Long before that, back in 1921, Consolidated actually began life when Julius Lichtenstein brought together six independent cigar manufacturers who had been competing for sales in local markets. The formula worked then, and it works now, albeit on a multibillion dollar scale.

And if the whole scene didn’t look enough like a set of Rus- Asian nesting dolls, in 2005, Swedish Match completed its acquisition of General Cigar, which in turn had acquired Honduran cigar manufacturer Villazon & Company several years earlier. Then, in 2006, the Ozgener family (owners of the widely popular CAO brand) sold out to global behemoth Henri Wintermans.

What exactly is going on here? What are the tangible benefits for the companies involved, besides the ability to present an everlarger variety of smoking options at their corporate parties? While such mergers drive investor value up, at least in the short term, subsequent performance often varies. Will bigger companies continue to manufacture the same product, or will consolidation reduce quality? It had better not. There are millions of discerning cigar enthusiasts around the world, and they’re not afraid to unleash their opinions on all things stogie to anyone within earshot.

CIRCLING THE WAGONS
The roots of Imperial’s acquisition of Altadis reflects the growing need for tobacco companies to consolidate everything from cigarettes and chewing tobacco to cigars under one corporate umbrella. It also allows access to vital new markets, When Altadis, S.A. took a controlling interest in JR Cigars, a leading U.S. cigar retailer, it acquired by extension some 40 percent of premium cigar sales in the U.S.; the JR retail outlets in major cities, along with an enormous mail-order business and wholesale distribution to the trade, can strategically place Imperial’s cigar brands front and center before the American consumer.

Jose Seijas, vice president (and master cigar maker) for Altadis, frames the acquisition by Imperial as nothing more than business as usual — at least when it comes to actually crafting cigars. “Atthis level, we are completely unaffected,” he says. “This factory has seen many changes [in ownership]. However, we’ve had the same management team in place since 1984. In fact, there are many advantages with a larger company.” In the end, Seijas says, his goals remain the same, no matter on whose balance sheet the factory finds itself. “Our concerns are quality, delivery, costs and maintaining a high level of consistency.”

With Altadis USA, makers of the Dominican Montecristo, Romeo y Julieta and H. Upmann, firmly in hand, Imperial gains a substantial foothold in the premium cigar market—something that they previously did not have in their portfolio.

“Imperial Tobacco and Altadis are a great strategic fit,” said Imperial’s Gareth Davis when the deal was announced. Just how great? Imperial estimates that the result will be operational efficiencies of more than $400 million. Coming into the acquisition, Imperial’s core strengths before the acquisition included cigarette brands Davidoff and Lambert & Butler (one of the top sellers in the U.K.), and German tobacco company Reemtsma. One cigarette factory can produce as many brands as two or three — and there’s added savings in marketing and distribution.

In acquiring Altadis, Imperial buttressed that cigarette line with Gauloises and Gitanes, and also gained a bigger foothold in Russia and Morocco — two countries offering stern resistance to the anti-smoking tsunami now engulfing the globe. Altadis also owns 50 percent of Habanos, S.A., the worldwide distributor of Cuban cigars, opening the door to the consolidation of Cuban and U.S./International trademark holders — eliminating potential litigation and consumer confusion when the Cuban embargo is finally lifted.

When economics textbooks refer to economies of scale, in other words, they might as well have Imperial’s logo printed beside the definition.

FORWARD THINKING
The CAO/Henri Wintermans deal, meanwhile, is a no-brainer: Both companies benefit tremendously from the access to new markets. “In terms of European distribution, this allows us to go from zero to 60 in much less time,” says Jon Huber, chief marketing officer for CAO. “We could have gotten there on our own, but this gives us an instant presence. It allows us to become a global brand on a greatly accelerated schedule.”

CAO will also benefit from the enormous buying power of Wintermans, which has a special facility in the Dominican Republic to collect and process tobacco for its operations in Europe. And (as any Wal-Mart executive will tell you) bulk equals strength when it comes to pricing. “Tobacco isn’t like other products,” Huber says. “You can’t always make more of it when you need to. There’s a set amount of premium tobacco out there, and we’ll obviously need more of it to cover our new European market.”

And Wintermans? The Dutch company sold 1.7 billion of its machine-made cigars in 2006, including its immensely popular Café Crème. (On the international scene, the company has also been extremely adept at working its price structures to adjust to local market circumstances, particularly in countries with high tobacco taxes.) Until the merger, however, 1.4 billion of those were sold in Europe, and only 4 million in the United States. “Outside of the U.S., Wintermans is the largest [cigar] company in the world,” says Gary Hyams, former managing director of Henri Wintermans Cigars U.K. and the newly named chairman of CAO. “With CAO, we gain entry into the American market with a firstclass ticket and an incredibly dynamic company.”

Wintermans hopes to greatly expand its sales of Café Crème in the U.S., and CAO gets to introduce its Vision and Sopranos lines (among others) to Europe. But why would a machine-made-cigar company care about the premium market? “We didn’t set out to get into the premium market,” Hyams explains. “We found a great company that had a strong relationship with the trade and a great brand. And there’s no reason why any smoker of premium cigars wouldn’t also enjoy a Café Crème.”

That statement, and the acquisition itself, also illustrate Wintermans’s forward thinking. With fewer places to light up a robusto, the American consumer may be forced to embrace the mini-cigar as an alternative to a longer smoke. Think of it as a coffee-break cigar (an image its name helps conjure), a less offensive transgression to nitpicky anti-smokers. The problem right now is that the average American might equate the mini-cigar less with a wellcrafted but small smoke and more with products like Villigers and the whiff of working-class negativity that clings to them.

Not so in Europe, where a cigarillo is as sophisticated as demitasse. Hyams seems aware that by introducing a new product and a new concept to America, his company may soon make Café Crème the Sudoku of cigars — popular for a broad demographic, not just people who worship their pickup.

THE BOTTOM LINE
The deal between Swedish Match and General Cigar can be said to have the same roots as CAO and Wintermans. After selling its cigarette-making division, a savvy Swedish Match built up its presence in both machine-made and premium cigars, as well as in other tobacco products such as snuff and chewing tobacco. As with Wintermans, the firm was looking to enhance its competitiveness, first with the purchase of General Cigar’s machine-made brands, including White Owl and Tiparillo, in 1999, then by taking over the entire company six years later. The final agreement also brought Swedish Match the best-selling premium cigar brand in the U.S., the mighty Macanudo. And General Cigar — perhaps prophetically, perhaps in a veiled attempt at wishful thinking — believes it finally got a big chance to show the rest of the world what America already (forcibly) knew: that Cuban cigars are not necessarily the be-all and end-all of cigar smoking.

That said, General Cigar — both on its own and vis-à-vis its acquisition of Villazon — has a portfolio that includes such Cubanborn brands as Bolivar, Hoyo de Monterrey and Partagas. Much like Altadis/Imperial, General Cigar has a hold on the trademarks, although Swedish Match does not have an interest and/or strategic alliance with Habanos, S.A.

Nonetheless, General Cigar gains the worldwide marketing expertise that Swedish Match brings to the party; Swedish Match gets a permanent table at Club Macanudo, a high-end, though small outlet for its products. Perhaps because of this lack of retail presence in the U.S., in September Swedish Match also acquired Cigars International, a presence in catalog and Internet retail that has driven sales to around $60 million a year. The move is somewhat comparable to Imperial’s secondary acquisition of JR Cigars.

But the driving force for this one may have as much to do with Wall Street’s short-term memory as with the straight-up U.S.- European market swap. In the minds of American investment houses, cigar stocks and cigarette stocks are one and the same — a little bit dirty and under fire from public advocacy groups.

Moreover, analysts are still looking for these companies to post the record gains they achieved during the cigar boom — clearly an unfair expectation. And who shows up at the fire sale, so to speak? Big European multinationals looking to grab American tobacco companies undervalued by their own system. Despite taxes, anti-smoking campaigns and outright bans, after all, sales of cigars in the U.S. remain strong and profits high.

“It’s good to shake up the business sometimes,” says Daniel Nuñez, the president and COO of General Cigars. “As is universally the case, the solid companies will ultimately prevail and the rest will fall away. The challenge therefore lies in making sure your company has the proper elements in place to ensure its staying power.”

Europe saw what Wall Street ignored, and thus stands to profit greatly from it. And yes, the big winners (at least initially) are the stockholders. Investors in Altadis saw as much as a 20 percent gain in the firm’s stock price the day that Imperial made its first offer. And what of the public’s belief in the cigar business as a family business, dedicated to the crafting of a fine cigar?

“Do you have to be small in order to be unique and perform?” Nuñez asks. “When you have all the resources and you’re big, you have better opportunities. If that isn’t so, then Lexus wouldn’t be what it is; BMW wouldn’t be what it is.” Between 2000 and today, he adds, his company has invested some $18 million in tobacco development alone, a cash outlay far beyond the reach of a smaller company. Smaller companies may be very professional and have great resources, but they need investment “to take it to the next level.”

As for the consumer, does it really matter who runs the show? In the end, it’s all about consistent blends, distribution and cost and where to find a good smoke at a decent price. And the introduction of new products to the market can never be a bad thing, for Americans or Europeans. Not to mention the added pleasure of seeing a Frenchman walking down the street holding a 17-inch, 56-ring gauge CAO Sopranos Boss. Got to love that.

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