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Lorillard Tobacco Co.

Financial Statement Analysis
Group Project

















Company Background

Lorillard (NYSE: LO) is the third largest tobacco company in the US and the oldest
company on the New York Stock Exchange. Lorillard was founded in 1760, 15 years before the
start of the Revolutionary War. The founder of Lorillard, Pierre Abraham Lorillard, was a staunch
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anti-loyalist. He was killed by British troops in 1776, during Britains occupation of New York.
Lorillard went on to help finance the Revolutionary War.
Lorillard has existed in one form or another over the past 250 years. At one point, it was
part of a trust known as the American Tobacco Company. The American Tobacco Company
was indicted under the Sherman Antitrust Act in 1908. It was ordered to dissolve in 1911, the
same day that Standard Oil was ordered to dissolve.
Today, Lorillard is best known for producing Newport, Kent, and Old Gold cigarettes.
The Newport brand makes up for 88.3% of Lorillard's cigarette sales and 85% of total sales. In
2012, Lorillard bought Blu eCigs for $135 million USD. At the time, this was the first acquisition
of an e-cigarette company by a major tobacco company. It should be noted however that it is
not unusual for cigarette companies to own subsidiaries that sell products to help consumers
quit smoking, such as nicotine patches and nicotine gum.
Lorillard has two major competitors and several smaller competitors. Its biggest
competitor is Altria Group, which was formerly known as Philip Morris. They are the makers of
Marlboro cigarettes and the largest tobacco company in the US. The next biggest competitor is
RJ Philips. They are the makers of Camel cigarettes and the second largest tobacco company
in the US. In addition to these competitors, there are several up and coming electronic cigarette
companies coming up which pose a serious risk to everyone in the traditional cigarette industry.
Part of the reason why Lorillard bought Blu eCigs, which currently holds 48% of the market, was
to give them a major competitor against other electronic cigarette companies.


Management and Shareholders
Six men make up the senior management team of Lorillard:
Murray Kessler President and CEO
David Taylor Executive Vice President, Finance, Planning, and Chief Financial Officer
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Ronald Milstein Executive Vice President, Legal and External Affairs, General Counsel, and
Secretary
Charles Henninghausen Executive Vice President and Production Operations
Randy Spell Executive Vice President, Marketing and Sales
Anthony Petitt Vice President, Controller and Chief Accounting Officer
Some of the men that make up the senior management team come from other cigarette
companies such as Altria Group. Murray formerly served as vice chair for Altria Group and he
was the CEO and president of US Smokeless Tobacco when they acquired Ste. Michelle Wine
Estates. In addition to his experience in the cigarette industry, he has years of experience in the
consumer goods industry. Another interesting name on the list of managers is Anthony Petitt.
Pettit worked as a controller and financial/accounting officer for companies in many different
industries. He was originally a CPA in Arthur Anderson, which is known for its role in the Waste
Management and Enron scandals.
There are nine people on the board of directors. The chairman of the board is Murray
Kessler, who also serves as the president and CEO of Lorillard. Seven of the nine hold the title
of director. The remaining one is the lead independent director. The lead independent director,
Virgis Colbert, has years of experience in the consumer goods and banking industries. He is a
member of the NAACP and served as an officer for several non-profits, which sought the
advancement of minorities in society.
There are 362 million shares of Lorillard outstanding currently. Only seven institutions
own more than 2% of Lorillard. These companies Include: American Funds Capital, MFS Value,
Vanguard Total Stock, Fidelity, SunAmerica, and Federated Strategic Value. Fidelity and
Vanguard have multiple companies that invest in Lorillard. Altogether, there are just under 1,000
different investors in Lorillard.

Major Challenges

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Tobacco Related Liability Litigation and difficulty estimating potential losses
o Litigation seeking compensatory and punitive damages range in the billions of dollars
(Pg. 41).
Health Care Compensation
o Lorillard has to pay 46 states currently to help with health care costs and other
allegations that tobacco products have caused. "The State Settlement Agreements
require us and the other Original Participating Manufacturers (Philip Morris, RJR
Tobacco and Brown & Williamson Tobacco Corporation (now an affiliate of RJR
Tobacco)) to make aggregate annual payments of $10.4 billion in perpetuity" (Pg. 52).
Advertising Restriction
o Lorillard ultimately lost a lawsuit that eventually made it all the way to the Supreme Court
regarding bans on advertising, restriction on the placement of outdoor advertising,
distribution of product samples, and other restrictions. According to Lorillard: "We believe
our ability to compete even more effectively has been restrained in some marketing
areas as a result of retail merchandising contracts offered by Philip Morris USA and RJR
Tobacco which limit the retail shelf space available to our brands. As a result, in some
retail locations we are limited in competitively supporting our promotional programs,
which may constrain sales" (Page 44).
Potential Ban of Menthol
o The FDA has received permission to regulate the sales of cigarettes and have discussed
a ban on menthol in cigarettes. One of Lorillards best-selling products are their Newport
Cigarettes, specifically menthol's. Newport makes up 88.3% of Lorillard's cigarette sales
and 85% of their total sales.
Increasing tax rate
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o Substantial tax rates are reflected in the increasing retail price of Lorillard's cigarettes.
Cigarette prices have also steadily increased since 1998 due to the volume and discount
of "deep discount cigarettes" (Pg. 41).

Major Opportunities
E-Cigarette Market
o Lorillard purchased E-Cigs and the fair value ascribed to the SKYCIG brand in
connection with the acquisition of $33 million is being amortized over an estimated life of
18 months beginning October 1, 2013 after which amortization charges related to the
brand will cease (Pg. 48). Not only will the amortization cease, but revenue associated
with the brand could skyrocket as eCigs are gaining popularity over traditional cigarettes.
Their current retail market share in the electronic cigarette market is 47%. Advertising
Expenses will drop next year, as the E-Cig rollout campaign was extremely expensive.
Lawsuit Victory
o Lorillard won a lawsuit concerning regulations that reacquire specific graphic warning
labels on all packaging and advertising after successfully arguing that those
requirements were unconstitutional (Pg. 43).

Financial Statements
Lorillard currently employs Deloitte and Touche LLP to perform the independent audit of
their financial statements. Deloitte and Touche's objective is to certify that Lorillard's financial
statements are "in conformity with accounting principles generally accepted in the United
States." The audit they perform must be in accordance with the standards of the Public
Accounting Oversight Board (PAOB). Deloitte is also responsible for evaluating Lorillards
ability to continue for a reasonable time as a going concern. While it is the responsibility of
management at Lorillard to prepare the financial statements, the certification of Deloitte
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and Touche provides confidence to users in the capital markets that the financial statements are
free of material misstatements. If Deloitte and Touche find material misstatements during the
audit, they are responsible for bringing it to the attention of the appropriate level of Lorillard
management. If the material misstatements are fraudulent in nature and they involve senior
management, those responsible for corporate governance at Lorillard must be notified. In 2013,
Deloitte and Touch certified the financial statements of Lorillard by expressing an unqualified
opinion on the companys internal control over financial reporting.
Murray S. Kessler serves as the Chairman of the Board (COB), President, and Chief
Executive Officer (CEO) at Lorillard. David H. Taylor serves as Executive Vice President of
Finance and Planning, as well as Chief Financial Officer (CFO) at Lorillard. Both are responsible
for certifying that the annual report and the financial statements fully complies with the
requirements of Section 13(a) or 15(d) of the Securities and Exchange Act of 1934. They also
certify that the information contained in the Report fairly presents, in all material respects, the
financial condition and results of operations of the company. The signing officers are also
responsible for establishing and maintaining internal controls as is required by the Sarbanes-
Oxley Act of 2002.

Financial Ratio Analysis

Profitability:

Based on table 1's profitability ratios, Lorillard is performing below one of their top
competitors, Altria. The ROE ratio has been negative since 2011, but is showing steady
improvement, reaching -57.17% in 2013. Based on this increase, Lorillard has improved its
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return on investments over the past three years. However, while the ROE has improved, it is still
a negative value. A firm needs both a positive ROE and ROA to grow. The return on assets has
not shown consistent growth over the past three years, which is an indication of possible
decline. Even with this possible decline, Lorillard was already in a strong position when it came
to asset utilization, especially compared to Altria.

Liquidity:

According to table 2, Lorillard has liquidity ratios that are greater than one. This indicates
that the firm is in good financial health and less likely to fall into financial struggle. Net working
capital also indicates that Lorillard has sufficient working capital to meet its short-term
obligations and liabilities. This ratio is also indicates that Lorillard has a substantial amount of
capital safeguarding the company from any unpredictable major shifts in the market.

Solvency:

While examining table 3, the book debt-equity ratio of Lorillard appears to be extremely
healthy, but it is not a viable indicator of the true solvency of the firm's debt-equity. Through
examining the market debt-equity there are relatively similar ratios between Lorillard and the
industry leader, Altria. It's important to note that in 2013 Lorillard spent $795 million to buy back
stock resulting in a total cash return to shareholders in 2013 of $1.295 billion USD.

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Asset Utilization:




Table 4 contains information about Lorillard's use of assets. Lorillard's ability to turn their
inventory significantly faster than the competition is a good indication that they have strong
management in place. The high asset utilization ratios means that Lorillard knows how to
convert their assets into inventory, then into revenue, and turn it back into assets and inventory
faster than their competitors. Lorillard also has an extremely high receivable turnover ratio,
which means that they have no problem collecting funds. This ability is a strength indicator of
the firms management and operations abilities.

Market Valuation:

Lorillards market to book ratio, while negative and lower in comparison to Altrias, the
dramatic increase over the past three years indicates that value investors perceive stock as
being undervalued in comparison to other stocks in its industry. Lorillards 3:1 stock split in
January of 2013 was in attempt to broaden its potential investor market by lowering their stock
price to align with the prices of industry leaders such as Altria.

Market Analysis
Analyst Projections-Lorillard
(Table: 6) End Year 2014
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Source Yahoo! Nasdaq.com Bloomberg
Earnings Per Share 3.03 3.44 3.451
Price to Earnings 18.82 16.56 16.4996
Projected Stock Price 57.0246 56.9664 56.9401196



In regards to investing in the tobacco industry market, an appealing attribute is
consistent dividend payments. Lorillards historical dividend payouts are consistent with this
trend. With overall cigarette market sales in a decline due to increased adversity as a result of a
host of factors, firms such as Lorillard are actively in pursuit of alternative investment
opportunities. Lorillard spotted opportunity in the electronic cigarette company blu eCig which
holds a 48% market share of a rapidly growing industry.
Financial ratios indicate that Lorillards management and investing operations in regards
to asset utilization, solvency and liquidity indicate suitable management of operations and
investing activities. However managements discussion and analysis in the 2013s annual report
are aligned with our findings. While the cigarette market offers steady yields to investors, the
price of such consistency comes at the cost of investing in a highly volatile market. This risk is
repeatedly stated in the managements discussions portion of the annual report. The uncertainty
relevant to the concerns addressed will ultimately have an effect on the company. However the
level of impact of each of these concerns are currently indeterminable. At this point in time we
do not recommend investing in Lorillard. This opinion is consistent with many other analyst
reports that the stock will remain stagnant in the near-term. Growth potential is possible,
however the current risk in purchasing stock today is not worth the reward, to this we
recommended potential investors in Lorillard to take a wait and see approach until outcomes are
decided.
(Lorillard 2011, 2012 & 2013 Financial Statements)
LORILLARD, INC. AND SUBSIDIARIES
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CONSOLIDATED BALANCE SHEETS

December 31,
(In millions, except per share data) 2011 2010
ASSETS:



Cash and cash equivalents $ 1,634 $ 2,063
Accounts receivable, less allowances of $2 and $3 10 9
Other receivables 83 68
Inventories 277 277
Deferred income taxes 535 503
Other current assets 25 15


Total current assets 2,564 2,935
Plant and equipment, net 262 243
Prepaid pension assets 66
Deferred income taxes 54 6
Other assets 128 46


Total assets $ 3,008 $ 3,296





LIABILITIES AND SHAREHOLDERS DEFICIT:



Accounts and drafts payable $ 32 $ 27
Accrued liabilities 296 333
Settlement costs 1,151 1,060
Income taxes 6 6


Total current liabilities 1,485 1,426
Long-term debt 2,595 1,769
Postretirement pension, medical and life insurance benefits 388 284
Other liabilities 53 42


Total liabilities 4,521 3,521


Commitments and Contingent Liabilities




Shareholders Deficit:



Preferred stock, $0.01 par value, authorized 10 million shares
Common stock:



Authorized 600 million shares; par value$.01 per share Issued 175 million and 174 million
shares (outstanding 132 million and 147 million shares) 2 2
Additional paid-in capital 266 242
Retained earnings 2,059 1,666
Accumulated other comprehensive loss (228 ) (109 )
Treasury stock at cost, 43 million and 27 million shares (3,612 ) (2,026 )


Total shareholders deficit (1,513 ) (225 )


Total liabilities and shareholders deficit $ 3,008 $ 3,296





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Table of Contents
LORILLARD, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME


Year Ended December 31,
(In millions, except per share data) 2011 2010 2009
Net sales (including excise taxes of $2,014, $1,879 and $1,547) $ 6,466 $ 5,932 $ 5,233
Cost of sales 4,123 3,809 3,327


Gross profit 2,343 2,123 1,906
Selling, general and administrative 451 398 365


Operating income 1,892 1,725 1,541
Investment income 3 4 5
Interest expense (125 ) (94 ) (27 )


Income before income taxes 1,770 1,635 1,519
Income taxes 654 606 571


Net income $ 1,116 $ 1,029 $ 948







Earnings per share:





Basic $ 8.00 $ 6.78 $ 5.76
Diluted $ 7.99 $ 6.78 $ 5.76
Weighted average number of shares outstanding:





Basic 139.11 151.59 164.48
Diluted 139.35 151.79 164.62


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LORILLARD, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS


December 31,
(In millions, except per share data) 2012 2011
ASSETS:



Cash and cash equivalents $ 1,720 $ 1,634
Accounts receivable, less allowances of $3 and $2 18 10
Other receivables 52 83
Inventories 410 277
Deferred income taxes 557 535
Other current assets 20 25


Total current assets 2,777 2,564
Plant and equipment, net 298 262
Goodwill 64
Intangible assets 57
Deferred income taxes 48 54
Other assets 152 128


Total assets $ 3,396 $ 3,008





LIABILITIES AND SHAREHOLDERS DEFICIT:



Accounts and drafts payable $ 39 $ 32
Accrued liabilities 356 296
Settlement costs 1,183 1,151
Income taxes 23 6


Total current liabilities 1,601 1,485
Long-term debt 3,111 2,595
Postretirement pension, medical and life insurance benefits 409 388
Other liabilities 52 53


Total liabilities 5,173 4,521


Commitments and Contingent Liabilities




Shareholders Deficit:



Preferred stock, $0.01 par value, authorized 10 million shares
Common stock:



Authorized 600 million shares; par value$.01 per share
Issued 525 million and 525 million shares (outstanding 382 million and 396 million shares) 5 5
Additional paid-in capital 298 263
Retained earnings 2,351 2,059
Accumulated other comprehensive loss (241 ) (228 )
Treasury stock at cost, 143 million and 129 million shares (4,190 ) (3,612 )


Total shareholders deficit (1,777 ) (1,513 )


Total liabilities and shareholders deficit $ 3,396 $ 3,008






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Table of Contents
LORILLARD, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME


Year Ended December 31,
(In millions, except per share data) 2012 2011 2010
Net sales (including excise taxes of $1,987, $2,014 and $1,879) $ 6,623 $ 6,466 $ 5,932
Cost of sales (including excise taxes of $1,987, $2,014 and $1,879) 4,241 4,123 3,809


Gross profit 2,382 2,343 2,123
Selling, general and administrative 504 451 398


Operating income 1,878 1,892 1,725
Investment income 4 3 4
Interest expense (154 ) (125 ) (94 )


Income before income taxes 1,728 1,770 1,635
Income taxes 629 654 606


Net income $ 1,099 $ 1,116 $ 1,029







Earnings per share:





Basic $ 2.82 $ 2.67 $ 2.26
Diluted $ 2.81 $ 2.66 $ 2.25
Weighted average number of shares outstanding:





Basic 389.27 417.32 454.76
Diluted 390.13 418.06 455.19
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LORILLARD, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

Year Ended December 31,
(In millions, except per share data) 2012 2011 2010
Net income $ 1,099 $ 1,116 $ 1,029

Other comprehensive income, net of tax:





Defined benefit retirement plans gain (loss), net of tax expense (benefit) of $(4), $(64) and
$6 (13 ) (119 ) 12


Other comprehensive income (loss) (13 ) (119 ) 12


Comprehensive income $ 1,086 $ 997 $ 1,041









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LORILLARD, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS


December 31,
(In millions, except share and per share data) 2013 2012
ASSETS:



Cash and cash equivalents $ 1,454 $ 1,720
Short-term investments 157
Accounts receivable, less allowances of $3 and $3 19 18
Other receivables 29 52
Inventories 499 410
Deferred income taxes 555 557
Other current assets 23 20


Total current assets 2,736 2,777
Plant and equipment, net 316 298
Long-term investments 93
Goodwill 102 64
Intangible assets, net 87 57
Deferred income taxes 51 48
Other assets 151 152


Total assets $ 3,536 $ 3,396





LIABILITIES AND SHAREHOLDERS DEFICIT:



Accounts and drafts payable $ 42 $ 39
Accrued liabilities 377 356
Settlement costs 1,224 1,183
Income taxes 8 23


Total current liabilities 1,651 1,601
Long-term debt 3,560 3,111
Postretirement pension, medical and life insurance benefits 305 409
Other liabilities 84 52


Total liabilities 5,600 5,173


Commitments and Contingent Liabilities




Shareholders Deficit:



Preferred stock, $0.01 par value, authorized 10 million shares
Common stock:



Authorized600 million shares; par value$.01 per share



Issued382 million and 525 million shares (outstanding 365 million and 382 million shares) 4 5
Additional paid-in capital 256 298
Retained earnings (deficit) (1,438 ) 2,351
Accumulated other comprehensive loss (130 ) (241 )
Treasury stock at cost, 17 million and 143 million shares (756 ) (4,190 )


Total shareholders deficit (2,064 ) (1,777 )


Total liabilities and shareholders deficit $ 3,536 $ 3,396





See Notes to Consolidated Financial Statements

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Table of Contents
LORILLARD, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME


Year Ended December 31,
(In millions, except per share data) 2013 2012 2011
Net sales (including excise taxes of $1,978, $1,987, and $2,014) $ 6,950 $ 6,623 $ 6,466
Cost of sales (including excise taxes of $1,978, $1,987, and $2,014) 4,231 4,241 4,123


Gross profit 2,719 2,382 2,343
Selling, general and administrative 665 504 451


Operating income 2,054 1,878 1,892
Investment income 2 4 3
Interest expense (172 ) (154 ) (125 )


Income before income taxes 1,884 1,728 1,770
Income taxes 704 629 654


Net income $ 1,180 $ 1,099 $ 1,116







Earnings per share:





Basic $ 3.15 $ 2.82 $ 2.67
Diluted $ 3.15 $ 2.81 $ 2.66
Weighted average number of shares outstanding:





Basic 372.96 389.27 417.32
Diluted 373.71 390.13 418.06
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LORILLARD, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME



















Year Ended December 31,
(In millions, except per share data) 2013 2012 2011
Net income $ 1,180 $ 1,099 $ 1,116

Other comprehensive income (loss), net of tax:





Defined benefit retirement plans gain (loss), net of tax expense (benefit) of $41, $(4), and
$(64) 110 (13 ) (119 )
Foreign currency translation adjustments, net of tax expense (benefit) of $-, $- and $- 1


Other comprehensive income (loss) 111 (13 ) (119 )


Comprehensive income $ 1,291 $ 1,086 $ 997







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