2 Things Lorillard Dividend Investors Need to Know

Even as the company contemplates its merger with Reynolds American, Lorillard investors shouldn't take anything for granted.

Dan Caplinger
Dan Caplinger
Oct 27, 2014 at 8:30AM
Consumer Goods

Source: Lorillard

Anyone familiar with merger and acquisitions knows that they're never over until they're over, and all too often, last-minute wrinkles end up killing what seemed like a done deal. For tobacco company Lorillard (UNKNOWN:LO.DL), the progress of its agreed-upon merger with Reynolds American (NYSE:RAI) continues apace, but that still doesn't provide any guarantees that the buyout will go through. Accordingly, Lorillard investors need to look closely at the company's prospects in order to avoid what could be nasty surprises if they don't end up having their shares bought by Reynolds. Let's look more closely at two things every dividend investor should know about Lorillard right now.

1. Lorillard's financials still look reasonably strong, even though some concerns linger.
Lorillard reported its third-quarter results on Thursday, and it can be extremely hard to gauge investor sentiment when a company reporting earnings is slated to get bought out because the stock tends not to move very much. Still, Lorillard gave some encouraging results that didn't have any surprises that could threaten the merger.

Lorillard saw net revenue climb by just a fraction of a percentage point. Somewhat surprisingly, though, traditional cigarettes were the leading driver of sales gains, with net sales up 1.6%, while electronic cigarette revenue actually fell. That's the opposite of what many investors see as the logical trajectory going forward, with excitement about growth prospects for e-cigarettes compared to traditional products. All of the gains in cigarettes were driven by higher prices, which offset falling unit volume of 2.1% for the quarter. On the earnings front, Lorillard had better performance, with an 8% gain in earnings per share to $0.90.

Source: Lorillard

One interesting element of the results was that competition in the electronic cigarette arena validated the approach that Reynolds and Lorillard have taken with respect to Lorillard blu eCigs brand. Market share for the first-mover electronic cigarette plunged more than 11 percentage points to below 30%, as competing campaigns from Altria (NYSE:MO) that included free-trial promotional offers during the quarter weighed on results. Lorillard CEO Murray Kessler touted the sustainability of blu, noting that a new recharging kit will help make "blu eCigs well-positioned to lead the worldwide development of the bourgeoning electronic cigarette category." But if the brand is so vulnerable to competition, then initial concerns that Lorillard's decision to divest itself of blu after the Reynolds merger look a lot less troubling in hindsight.

2. After a merger, Lorillard executives will end up with some money that shareholders therefore won't get.
Shareholders aren't the only ones to benefit financially from mergers and acquisitions. In many cases, corporate executives can get big paydays from their companies if a change of control results in their no longer having the same role at the post-merger company.

Lorillard CEO Murray Kessler. Source: Lorillard

In the case of the Reynolds American merger, Lorillard CEO Kessler will reportedly get compensation potentially worth more than $44 million. About three-quarters of the payout will be in the form of stock awards, but Kessler will also be in line to get more than $10 million in cash, representing three years' worth of his base salary and annual bonus. Other key executives, including CFO David Taylor and Executive Vice Presidents Randy Spell, Ronald Milstein, and Charles Hennighausen, will receive between $8.1 million and $13.3 million if they lose their jobs as a result of the merger.

Golden parachutes for executives displaced by a corporate merger are quite common, so none of this should come as a major shock to Lorillard investors. Nevertheless, every dollar that goes to pay departing executives is one less dollar that Reynolds American will have to pay to former Lorillard shareholders who elect to hold onto the Reynolds shares they'll receive in the merger.

Lorillard might well not be an independent company much longer, in which case its dividend investors will have to decide whether Reynolds American is a solid dividend stock. For now, though, Lorillard continues to push forward, and that's important just in case something happens to disrupt the deal before it closes.