We think the acquisition value of the company is on the upswing as a result of the continued rise in the market price of British American Tobacco.
We are raising our fair value estimate of Reynolds American
to $66 per share from $60 to account for the increase in the acquisition value of the company as a result of the continued rise in the market price of British American Tobacco. Reynolds is expected to be acquired by BAT in the third quarter of this year, and with 55% of the total consideration being paid in stock, the value of the deal is sensitive to the market value of BAT. Our valuation of Reynolds accounts for the current market value of the acquisition in full, reflecting our high conviction that the deal will close. It is not based on our discounted cash flow valuation model, which does not reflect the synergies of the combined business and implies a lower valuation. Regulatory approval for the deal has already been granted in the U.S. and Japan, and we expect the remainder of the process to be relatively smooth sailing.
Philip Gorham, CFA, FRM, is director of equity research for Ibbotson Associates Japan,subsidiary of Morningstar.
Our GBX 4,800 fair value estimate of BAT is unchanged because the underlying terms of the deal have not changed. At almost 11 times enterprise value/EBITDA, the deal is slightly above historical developed-market tobacco deals since 1998. It is very slightly value-destructive, in our view, although not by a material amount, and any value destruction will have been mitigated by the recent weakness in the British pound against the U.S. dollar, following the U.K.'s recent general election.
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