Spoiling for a Fight? Analysts say they are expecting Altria to cut the prices of moist tobacco in a 'Skoal Sunday' move against Reynolds

Philip Morris used "Marlboro Friday" -- a stunning 20 percent price cut on the brand in April 1993 -- to chop away at R.J. Reynolds Tobacco Co.'s cigarette sales and cement its top market share.

Altria Group Inc., Morris' parent company, appears to be aiming for a "Skoal Sunday" for the moist-tobacco brand it recently acquired in its $10.4 billion deal for UST.

The implications could be significant for Reynolds in terms of sales and jobs since the company is staking its future on smokeless tobacco products, particularly its Conwood subsidiary.

But as the tobacco manufacturer invests more resources into innovation, and as it pushes hard for language creating a niche for tobacco products with reduced health risk in any potential federal regulation of the industry, a sequel to Marlboro Friday may be around the corner.

Analysts say they expect that next Sunday, Altria will increase the price discount for Skoal and Copenhagen to $1 in the Southeast. It represents between a $60 million to $70 million increase in promotional spending on the brands by Altria.

Grizzly, the discount brand of Conwood, is sold in the Triad for an average retail price of $2.22 a can. That's about 44 percent lower than Skoal and Copenhagen because there is no current price promotion on those brands.

But with the $1 price discount, Skoal and Copenhagen would be about $2.99 a can on average.

David Adelman, an analyst with Morgan Stanley, said that the strategy represents Altria's bid to bolster Skoal and Copenhagen's market share for moist-tobacco sales.

"While this program is currently scheduled to run through March, we believe that spending at least of this level will essentially be a permanent pricing reset," Adelman said.

Some analysts said that the $1 price cut could be enough to convince former Skoal users to switch back after turning to Grizzly because of the lower price.

Skoal, Copenhagen and Grizzly all have between 22 percent and 24 percent U.S. market share, according to Bill Godshall, the executive director of SmokeFree Pennsylvania. Godshall is an outspoken advocate of noncombustible tobacco products as a reduced-risk option for smokers.

Conwood has been a bright spot for Reynolds.

The division posted a 10 percent increase in operating profit in the third quarter, with Grizzly delivering double-digit volume growth. Reynolds is moving ahead with expanding its Conwood operations in Tennessee.

"Despite Grizzly's strong relative brand equity, we believe that Reynolds will likely be forced to institute some promotional increase on the brand and/or suffer moderating volume growth, negatively impacting Conwood's profitability in the short-term," Adelman said.

The Altria pricing strategy comes at a time when American smokers are buying fewer cigarettes. Smoking bans and health concerns have led to declines in cigarettes of between 3 percent and 4 percent a year.

By comparison, smokeless sales are growing by about 5 percent to 6 percent a year.

With the deal for UST, Altria gained the top market share in smokeless tobacco with Skoal and Copenhagen at 59 percent to go along with its No. 1 grip on cigarettes with Marlboro at 51 percent.

"The leap ahead of Reynolds in the smokeless arena is a serious development," said Stephen Pope, the chief global-market strategist with Cantor Fitzgerald Europe.

"It is not a pleasant outlook for Reynolds, as I expect operating margin and returns to decline as deeper and wider price incentives are made.

"Reynolds is going to need a radical review of the pricing and brand-positioning strategy if it is to keep Grizzly and Kodiak snuff in the hunt for sales alongside Skoal and Copenhagen," Pope said.

Tommy Payne, the executive vice president of public affairs for Reynolds, said that the company has never had "an issue with competition. Never have, never will."

Where Reynolds has concerns, Payne said, is with potential regulation of the industry by the Food and Drug Administration. A proposed bill supporting that regulation does not have a niche carved out for noncombustible tobacco products.

"It's very different for the marketplace to decide how competition shapes up, whether it be in consumer communication, product placement, pricing, as opposed to the government dictating to those competitors want can and cannot be done, and conveying clear competitive advantage to a larger player," Payne said.

"Having the government dictate winners and losers, as it has now gotten into the business of doing with banking and other financial institutions, we're very much opposed to," he said.

Analysts have said that the Marlboro Friday price cut of April 1993 was so effective because it wiped out whatever price advantage that Reynolds had with its premium brands.

Forced to match the 20 percent price cut, Reynolds lost about $600 million in sales compared, with $2 billion by Philip Morris USA. But Philip Morris' size and the Reynold's level of debt at the time took its toll on Reynolds.

"For Reynolds, the $600 million cost of matching its competitor/tormentor was devastating," wrote the authors of Barbarians at the Gate in the aftermath of their recently updated seminal book about the leveraged buyout of RJR Nabisco.

"That took a huge chunk out of its $4 billion annual operating profit. It could particularly ill afford the hit because so much of its cash flow was already diverted to pay debt."

Just four months after Marlboro Friday, Reynolds announced that it was eliminating 1,000 local jobs because of the price war. It expanded the job cut by 200 to 1,200 in December 1993.

The combined job cuts not only reduced Reynolds' local work force to 7,367 at the time, but accelerated a downward employment spiral still continuing today.

The local work force is projected to be about 3,130 when it completes the elimination of 570 white-collar jobs -- announced in September -- by early 2010.

Adelman said that Altria "does appear sensitive to the possibility that overly aggressive national price cuts could potentially damage the long-term prospects of the category's profit pool."

Godshall said that Skoal has served in recent years as the brand of choice for smokers dipping into smokeless.

"But since it is a premium brand, some tend to want a discount brand and turn to Grizzly," he said. "Altria wants those Skoal customers back and is willing to lose some revenue in the short term to take market share away from Grizzly.

"I'm not sure a 30-cent discount will be enough to do that on its own," Godshall said. "Grizzly sales have taken off in the Southeast, which is why Altria is targeting the Southeast with the price cut."

■ Richard Craver can be reached at 727-7376 or at rcraver@wsjournal.com.