U.S. Wins Case But No Fines for Big Tobacco
DALLAS — Tobacco bond yields remained relatively steady Friday amid slightly higher trading volume following a federal court ruling that the tobacco industry is guilty of civil fraud and racketeering.
The ruling in the lawsuit, which the U.S. Department of Justice first filed in 1999, is not expected to have a major impact on the nearly $30 billion of outstanding municipal debt backed by payments made by tobacco companies to states under the terms of the 1998 Master Settlement Agreement.
Although the ruling hands down sanctions against the companies, there was no monetary award against them.
“Tobacco stocks are up,” said B. Clark Stamper, president of California-based Stamper Capital & Investments Inc. “The bonds, which used to be so news-sensitive, haven’t moved much at all.”
U.S. District Judge Gladys Kessler on Thursday handed down a ruling that imposed a slew of sanctions against tobacco companies. She found that the defendants — Philip Morris USA, R.J. Reynolds Tobacco Co., Brown & Williamson Tobacco Co., Lorillard Tobacco Co., and British American Tobacco Ltd. — colluded to hide information about the health risks associated with smoking. R.J. Reynolds and Brown & Williamson have merged since the lawsuit was filed to form Reynolds American Inc.
“Over the course of more than 50 years,” Kessler wrote in her 1,652-page legal opinion, “defendants lied, misrepresented, and deceived the American public, including smokers and the young people they avidly sought as ‘replacement smokers,’ about the devastating health effects of smoking and environmental tobacco smoke, they suppressed research, they destroyed documents, they manipulated the use of nicotine so as to increase and perpetuate addiction, they distorted the truth about low tar and light cigarettes so as to discourage smokers from quitting, and they abused the legal system in order to achieve their goal — to make money with little, if any, regard for individual illness and suffering, soaring health costs, or the integrity of the legal system.”
The companies say they will appeal the ruling, which also requires them to initiate campaigns stating that they hid information about tobacco risks, about how cigarette design provides maximum nicotine delivery, and the adverse effects of secondhand smoke.
Kessler also prohibited the companies from using such terms as “mild,” “light,” and “ultralight” to describe their products. She stated that such terminology misleads consumers to believe such brands are less harmful than so-called full-flavored brands.
The ruling, some analysts predict, could also pave the way for additional legal action. A number of so-called “lights” lawsuits are pending around the country by smokers who say they were duped into believing such brands were not as harmful as regular cigarettes.
Kessler excluded Liggett Group Inc., the smallest of the defendants, from her ruling, finding the company not liable because Liggett officials in the 1990s came forward to admit that smoking cigarettes causes cancer.
However, other than requiring tobacco companies to pay the federal government’s legal bills, Kessler did not order those companies she found guilty to pay any damages.
When federal attorneys first filed the lawsuit, the DOJ sought disgorgement of the profits of tobacco industry defendants under the 1970 Racketeer Influenced and Corrupt Organizations Act, or RICO. Federal attorneys had hoped to win disgorgement of the companies’ profits between 1954 and 2001 — an amount totaling $279 billion.
However, 10 months ago, the U.S. Supreme Court ruled that the DOJ could not seek past profits, which limited the amount the government could go after to about $14 billion in civil penalties, including a $10 billion anti-smoking initiative.
Kessler initially allowed a coalition of anti-tobacco organizations to submit a proposal that, if they lost, would have seen defendants spend $108 billion over 20 years on anti-smoking programs. However, she ultimately determined that allowing that request to be included in the trial violated a 2005 appellate court ruling — upheld by the Supreme Court — that limited remedies to future acts of fraud.
Mike Marz, a vice chairman at First Southwest Co., said he believes the lawsuit’s outcome will not hurt tobacco bonds because tobacco companies will not have to struggle under the weight of a massive monetary judgment.
“This is just making another step toward resolution of the litigation that’s been hanging over this sector,” he said. “While we’re not out of the woods yet, the buyers who hold tobacco bonds understand the credit.”
He said that tobacco bond market has not only absorbed such recent new issues as a $200 million offering by the District of Columbia Tobacco Settlement Financing Corp. and a $411 million offering by the Northern Tobacco Securitization Corp. in Alaska, trading volume in the secondary market has increased significantly in the last six months.
“Right now, it’s by far the best value in the BBB category,” Marz said. “However, we won’t see a class of new investors in this sector until the ratings agencies change the outlook on the credit to positive.”
All three rating agencies carry negative outlooks on tobacco bonds. Late Friday, Standard & Poor’s reaffirmed that outlook, stating that such debt “would likely remain negative even if the negative outlooks on the major tobacco manufacturers, or their parent companies, were revised to stable” because of concerns of litigation threatening the MSA and MSA payments.
Dick Larkin, a senior vice president at J.B. Hanauer & Co. who specializes in tobacco bond analysis, said Kessler’s decision could have far reaching impact on how the public perceives the MSA.
“Could the damaging remarks by the judge and the strength of the court opinion put pressure on states to renegotiate or scuttle the MSA?” he said. “Critics might contend that the states should not be ‘in cahoots with adjudicated racketeers.’ ”
He also said that Kessler herself pointed out that her lengthy ruling gives courts throughout the country the findings to help form the basis for future decisions.
