Downtrodden Tobacco Stocks Making a Comeback

Investors are lighting up once-beleaguered tobacco stocks.

Shares of Philip Morris Cos., R.J. Reynolds Tobacco Holdings Inc., Loews Corp. and other cigarette makers extended their upward momentum Friday after a Wall Street analyst joined others who contend that the threat of gigantic legal judgments against the companies is receding.

Philip Morris and Loews alone “could rise 50% to 60% by next year,” and Philip Morris could triple in two years as the prospect of additional class-action lawsuits against the tobacco companies continues to ebb, analyst Marc Cohen of Goldman, Sachs & Co. said in a report Thursday.

Tobacco issues, which had been pummeled in recent years in response to massive litigation, already have been rallying this year on the belief that the stocks have become cheap and the companies’ outlook for surviving the wave of health claims has improved.

The American Stock Exchange’s index of nine tobacco stocks has surged 23% so far this year, far outpacing either the benchmark Standard & Poor’s 500 index (up 0.2%) or the technology-heavy Nasdaq composite index (down 6.9%).

Industry leader Philip Morris, maker of Marlboro, Merit and Benson & Hedges cigarettes, jumped an additional $2.75 a share to $31.25 on Friday in response to Cohen’s report. Loews, whose Lorillard unit markets such cigarettes as Kent and Newport, rose $5.56 to $81.63 a share.

RJR Tobacco, which sells Winston, Camel and Salem smokes, gained $2.19 to $35.50 a share. RJR Tobacco was created in June 1999 when it was separated from the cookie-and-cracker maker Nabisco Holdings Corp. Its stock has more than doubled in price so far this year. All these stocks trade on the New York Stock Exchange.

To be sure, the industry was slammed last month when a state court jury in Miami awarded an eye-popping $145 billion in punitive damages against several of the major tobacco companies in the so-called Engle case, named after lead plaintiff Howard Engle. But many expect that award to either be cut dramatically, set aside or appealed for years.

Indeed, the Engle verdict will be the “high-water mark” in litigation against the tobacco industry, Cohen said.

In the meantime, “an overwhelming body of judicial opinion rejecting class actions brought by a group of individuals claiming direct injury from cigarette smoking has now been established,” Cohen wrote. “Out of 27 cases in which a motion for class certification has been decided to date, courts have denied certifications in 24” of the cases, he added.

Even so, the tobacco companies still face mountains of litigation in state and federal courts. And although the industry has shown considerable resilience in fending off the lawsuits, it’s had to incorporate huge legal fees as a cost of doing business--costs that it’s been passing on to smokers in the form of escalating cigarette prices.

Some analysts still see the litigation horizon as uncertain for the tobacco companies and thus are less bullish on the stocks.

“There are a lot of ‘ifs’ for us” in terms of the Engle case alone, and there’s also a suit pending against the companies filed by the Justice Department seeking reimbursement for smoking-related health-care costs, said Ann Gurkin of securities firm Davenport & Co. in Richmond, Va.

Cohen, though, wrote that “complete resolution of the [Justice Department] lawsuit may not occur for several years, but we see good likelihood that the courts will remove significant risk before it reaches trial.”

Philip Morris has several other interests besides tobacco; its holdings include Kraft Foods and Miller Brewing. In fact, Philip Morris in June agreed to buy Nabisco Holdings for $15 billion and merge it with Kraft, and early next year the company plans to spin off a minority stake in the newly combined food concern to the public via an initial public offering.

Cohen estimated that Philip Morris is worth about $55 a share, “if all of the businesses could be fully separated today.” He also said that the Kraft IPO would help the company “quickly separate food from tobacco if an opportunity arises,” and that “under this scenario we see potential for investment in Philip Morris to nearly triple in two years.”