Besides being a perennial take-over target for Japanese Tobacco Inc, IMT’s investment thesis is mainly circled around the (accretive) potential for IMT to acquire large scale US cigarette assets for $7.1bn as part of the divestiture package announced with the tie up between the 2nd and 3rd largest US cigarette companies Reynolds and Lorillard: In Jul-14 Reynolds and Lorillard announced a large scale tie up which would basically create an almost duopoly inthe US cigarette market together with Altria (both companies to control almost 80% of total US cigarette market).

As part of the tie up agreement (and mainly to alleviate the huge antitrust concerns), Reynolds and Lorillard announced the sale of significant US cigarette assets & brands to IMT, which basically would
make IMT a stronger 3rd player in the US (with about 10% market share). With the Reynolds-Lorillard deal close coming in sight now (as we are in last couple of weeks of the US HSR 2nd request that’s been
running for more than 7 months since Aug-14), IMT investors have been starting to gradually focus on the increased probability of LO-RAI deal closing and the subsequent IMT purchase closing/valuation uplift/earnings accretion.

Although average deal upside is about 6% to GBP 33.5 share price levels, at this stage there are still number of downside risks associated, including a) still reasonable chance that LO/RAI deal might get blocked by US (effectively denying IMT’’s $7.1bn deal) which would result in 13-15% downside here (hence why investors playing purchase upside through calls rather than equity) ; ii) strong EUR currency headwinds (currently reducing EBIT by about 3-4% so far ytd) and c) fact that market might have gotten (a bit) too excited on the US brands IMT is acquiring (as these are effectively suboptimal, fast market share losing brands in the US).