Imperial Tobacco to snag U.S. e-cig lead thanks to deal

(recasts first paragraph, adds details on e-cigs)

By Jilian Mincer, Martinne Geller and Anjuli Davies

NEW YORK/LONDON, July 15 (Reuters) - When Imperial Tobacco

Group Plc agreed Tuesday to buy a group of brands from

Reynolds American Inc (NYSE: RAI - news) and Lorillard Inc (NYSE: LO - news) as part

of their merger, the British company insisted the assets include

Lorillard's blu e-cigarette unit.

The brand gives Imperial, which will become the

third-largest U.S. tobacco company overall, a big lead in the

new and fast-growing U.S. electronic cigarette market where it

now accounts for about 47 percent of market share.

E-cigarettes are considered a crucial business for big

tobacco companies, which have bought or developed their own

brands in recent years to offset shrinking sales of conventional

tobacco cigarettes.

Imperial, which already had an e-cigarette product called

Puritane, hopes to build on blu's strong U.S. foothold

worldwide, said Chief Executive Alison Cooper.

"When it comes to e-cigarettes, outside of the U.S. you

haven't got strong brands," said Cooper. "The opportunity is to

start getting the technology right with a great brand.

"We do think it's a great brand," she said. "The overall

portfolio is what we're pleased to have bought. It's really the

whole package."

One source close to the deal talks said Imperial insisted

that blu be part of the wider package of brands it was buying.

Imperial will also acquire Reynolds' Kool, Salem and Winston

brands as well as Lorillard's Maverick.

U.S. e-cigarette sales are expected to outpace sales of

tobacco cigarettes by 2020, according to Wells Fargo analyst

Bonnie Herzog, who said Tuesday's deal has the potential to

catapult the global vapor category, "which could be increasingly

M&A-driven."

After decades of implementing cigarette bans and encouraging

people not to smoke, "I think these (electronic-cigarette)

products renormalize smoking as a behavior," said Doug Blanke,

director of Public Health Law Center, at the William Mitchell

College of Law.

Imperial, however, should expect intense competition from

Reynolds, Altria Group Inc (NYSE: MO - news) and some of the smaller

private companies in the business, including NJOY, Mistic and

VMR Products.

The e-cigarette category is still evolving, said Morningstar

analyst Philip Gorham. While blu is the market leader now, he

said, "we don't know for sure whether this technology will still

be the leader in five years time or even two."

VUSE VS. BLU

E-cigarettes are slim, reusable, metal-tube devices

containing nicotine-laced liquids that come in exotic flavors.

When users puff, the nicotine is heated and released as a vapor

containing no tar, unlike conventional cigarette smoke.

Lorillard purchased blu for $135 million in 2012. Since then

its U.S. market share has soared from 10 percent to about 47

percent and revenue has quadrupled to more than $200 million.

Many attribute the growth to the savvy marketing of its

founder Jason Healy, who built its rebellious image with slogans

such as "Take Back Your Freedom," bikini ads in Sports

Illustrated and sponsorship of concerts and car races.

Blu - unlike Vuse and MarkTen - also offers fruit-flavored

e-cigarettes including Pina Colada, Peach Schnapps and Cherry

Crush.

While Vuse's market share is significantly smaller than

blu's 47 percent, Reynolds is the only one of the three largest

U.S. tobacco companies to make its e-cigarettes in its home

turf, at a factory in Kansas.

Reynolds executives have said they believe the domestic

production gives them greater oversight and control of the

ingredients and manufacturing of a product that has already

drawn close scrutiny from the U.S. Food and Drug Administration

and other regulators.

The company, which started selling Vuse roughly a year ago

in Colorado and Utah, is rolling out the product nationwide this

quarter.

Reynolds expects to share e-cigarette technology with top

stakeholder British American Tobacco Plc (LSE: BATS.L - news) and to

cooperate on next-generation tobacco products, said a company

spokesman.

"This agreement with BAT holds great promise for global

growth in those categories and will enhance value for all

shareholders," he said.

(Additional reporting by Anjali Athavaley; Editing by Lisa Von

Ahn and Prudence Crowther)