| We have described below some of the more significant risks which we and our subsidiaries face |
| There may be additional risks that we do not yet know of or that we do not currently perceive to be significant that may also impact our business or the business of our subsidiaries |
| Each of the risks and uncertainties described below could lead to events or circumstances that have a material adverse effect on the business, results of operations, cash flows, financial condition or equity of us or one or more of our subsidiaries, which in turn could negatively affect the value of our common stock |
| You should carefully consider and evaluate all of the information included in this report and any subsequent reports that we may file with the Securities and Exchange Commission or make available to the public before investing in any securities issued by us |
| We and our subsidiaries have a substantial amount of indebtedness |
| We and our subsidiaries have significant indebtedness and debt service obligations |
| At December 31, 2005, we and our subsidiaries had total outstanding indebtedness (including embedded derivative liability and beneficial conversion feature related to convertible notes) of dlra306dtta2 million |
| In addition, subject to the terms of any future agreements, we and our subsidiaries will be able to incur additional indebtedness in the future |
| There is a risk that we will not be able to generate sufficient funds to repay our debt |
| If we cannot service our fixed charges, it would have a material adverse effect on our business and results of operations |
| We are a holding company and depend on cash payments from our subsidiaries, which are subject to contractual and other restrictions, in order to service our debt and to pay dividends on our common stock |
| We are a holding company and have no operations of our own |
| We hold our interests in our various businesses through our wholly-owned subsidiaries, VGR Holding and New Valley |
| In addition to our own cash resources, our ability to pay interest on our convertible notes and to pay dividends on our common stock depends on the ability of VGR Holding and New Valley to make cash available to us |
| VGR Holding’s ability to pay dividends to us depends primarily on the ability of Liggett, its wholly-owned subsidiary, to generate cash and make it available to VGR Holding |
| Liggett’s revolving credit agreement permits Liggett to pay cash dividends to VGR Holding only if Liggett’s borrowing availability exceeds dlra5 million for the 30 days prior to payment of the dividend and immediately after giving effect to the dividend, and so long as no event of default has occurred under the agreement, including Liggett’s compliance with the covenants in the credit facility, including an adjusted net worth and working capital requirement |
| Our receipt of cash payments, as dividends or otherwise, from our subsidiaries is an important source of our liquidity and capital resources |
| If we do not have sufficient cash resources of our own and do not receive payments from our subsidiaries in an amount sufficient to repay our debts and to pay dividends on our common stock, we must obtain additional funds from other sources |
| There is a risk that we will not be able to obtain additional funds at all or on terms acceptable to us |
| Our inability to service these obligations and to continue to pay dividends on our common stock would significantly harm us and the value of our common stock |
| Our liquidity could be adversely affected if taxing authorities prevail in their assertion that we incurred a tax obligation in 1998 and 1999 in connection with the Philip Morris brand transaction |
| In connection with the 1998 and 1999 transaction with Philip Morris Incorporated, in which a subsidiary of Liggett contributed three of its premium cigarette brands to Trademarks LLC, or Trademarks, a newly-formed limited liability company, we recognized in 1999 a pre-tax gain of dlra294dtta1 million in our consolidated financial statements and established a deferred tax liability of dlra103dtta1 million relating to the gain |
| In such transaction, Philip Morris acquired an option to purchase the remaining interest in Trademarks for a 90-day period commencing in December 2008, and we have an option to require Philip Morris to purchase the remaining interest for a 90-day period commencing in March 2010 |
| Upon exercise of the options during either of the 90-day periods commencing in December 2008 or in March 2010, we will be 28 _________________________________________________________________ [83]Table of Contents required to pay tax in the amount of the deferred tax liability, which will be offset by the benefit of any deferred tax assets, including any net operating losses, available to us at that time |
| In connection with an examination of our 1998 and 1999 federal income tax returns, the Internal Revenue Service issued to us in September 2003 a notice of proposed adjustment |
| The notice asserts that, for tax reporting purposes, the entire gain should have been recognized in 1998 and in 1999 in the additional amounts of dlra150 million and dlra129dtta9 million, respectively, rather than upon the exercise of the options during either of the 90-day periods commencing in December 2008 or in March 2010 |
| If the Internal Revenue Service were to ultimately prevail with the proposed adjustment, it would result in the potential acceleration of tax payments of approximately dlra127 million, including interest, net of tax benefits, through December 31, 2005 |
| These amounts have been previously recognized in our consolidated financial statements as tax liabilities |
| In addition, we have filed a protest with the Appeals Division of the Internal Revenue Service |
| There is a risk that the taxing authorities will ultimately prevail in their assertion that we incurred a tax obligation prior to the exercise dates of these options and we will be required to make such tax payments prior to 2009 or 2010 |
| If that were to occur and any necessary financing were not available to us, our liquidity could be materially adversely affected, which in turn would materially adversely affect the value of our common stock |
| Liggett faces intense competition in the domestic tobacco industry |
| Liggett is considerably smaller and has fewer resources than its major competitors and, as a result, has a more limited ability to respond to market developments |
| Management Science Associates data indicate that the three largest cigarette manufacturers controlled approximately 86dtta1prca of the United States cigarette market during 2005 |
| Philip Morris is the largest and most profitable manufacturer in the market, and its profits are derived principally from its sale of premium cigarettes |
| Philip Morris had approximately 62dtta7prca of the premium segment and 48dtta7prca of the total domestic market during 2005 |
| During 2005, all of Liggett’s sales were in the discount segment, and its share of the total domestic cigarette market was 2dtta2prca |
| Philip Morris and RJR Tobacco (which is now part of Reynolds American), the two largest cigarette manufacturers, have historically, because of their dominant market share, been able to determine cigarette prices for the various pricing tiers within the industry |
| Market pressures have historically caused the other cigarette manufacturers to bring their prices into line with the levels established by these two major manufacturers |
| In July 2004, RJR Tobacco and Brown & Williamson, the second and third largest cigarette manufacturers, completed the combination of their United States tobacco businesses to create Reynolds American |
| This transaction has further consolidated the dominance of the domestic cigarette market by Philip Morris and the newly created Reynolds American, who had a combined market share of approximately 76dtta9prca at December 31, 2005 |
| This concentration of United States market share could make it more difficult for Liggett and Vector Tobacco to compete for shelf space in retail outlets and could impact price competition in the market, either of which could have a material adverse affect on their sales volume, operating income and cash flows, which in turn could negatively affect the value of our common stock |
| Liggett’s business is highly dependent on the discount cigarette segment |
| Liggett depends more on sales in the discount cigarette segment of the market, relative to the full-price premium segment, than its major competitors |
| All of Liggett’s unit volume in 2005 and 2004 were generated in the discount segment |
| The discount segment is highly competitive, with consumers having less brand loyalty and placing greater emphasis on price |
| While the three major manufacturers all compete with Liggett in the discount segment of the market, the strongest competition for market share has recently come from a group of small manufacturers and importers, most of which sell low quality, deep discount cigarettes |
| While Liggett’s share of the discount market increased to 7dtta5prca in 2005 from 7dtta4prca in 2004 and 7dtta3prca in 2003, Management Science Associates data indicate that the discount market share of these other smaller manufacturers and importers was approximately 38dtta0prca in 2005, 39dtta4prca in 2004 and 37dtta8prca in 2003 |
| If pricing in the discount market continues to be impacted by these smaller manufacturers and importers, margins in Liggett’s only 29 _________________________________________________________________ [84]Table of Contents current market segment could be negatively affected, which in turn could negatively affect the value of our common stock |
| Liggett’s market share is susceptible to decline |
| In years prior to 2000, Liggett suffered a substantial decline in unit sales and associated market share |
| Liggett’s unit sales and market share increased during each of 2000, 2001 and 2002, and its market share increased in 2003 while its unit sales declined |
| During 2004 and 2005, Liggett’s unit sales and market share declined compared to the prior year |
| This earlier market share erosion resulted in part from Liggett’s highly leveraged capital structure that existed until December 1998 and its limited ability to match other competitors’ wholesale and retail trade programs, obtain retail shelf space for its products and advertise its brands |
| The decline in recent years also resulted from adverse developments in the tobacco industry, intense competition and changes in consumer preferences |
| According to Management Science Associates data, Liggett’s overall domestic market share during 2005 was 2dtta2prca compared to 2dtta3prca during 2004 and 2dtta4prca during 2003 |
| Liggett’s share of the premium segment was 0dtta2prca in 2003, and its share of the discount segment during 2005 was 7dtta5prca, up from 7dtta4prca in 2004 and 7dtta3prca in 2003 |
| If Liggett’s market share continues to decline, Liggett’s sales volume, operating income and cash flows could be materially adversely affected, which in turn could negatively affect the value of our common stock |
| The domestic cigarette industry has experienced declining unit sales in recent periods |
| Industry-wide shipments of cigarettes in the United States have been generally declining for a number of years, with published industry sources estimating that domestic industry-wide shipments decreased by approximately 3dtta4prca during 2005 |
| According to Management Science Associates data, domestic industry-wide shipments decreased by 1dtta7prca in 2004 compared to 2003 |
| Liggett’s management believes that industry-wide shipments of cigarettes in the United States will generally continue to decline as a result of numerous factors |
| These factors include health considerations, diminishing social acceptance of smoking, and a wide variety of federal, state and local laws limiting smoking in restaurants, bars and other public places, as well as federal and state excise tax increases and settlement-related expenses which have contributed to high cigarette price levels in recent years |
| If this decline in industry-wide shipments continues and Liggett is unable to capture market share from its competitors, or if the industry as a whole is unable to offset the decline in unit sales with price increases, Liggett’s sales volume, operating income and cash flows could be materially adversely affected, which in turn could negatively affect the value of our common stock |
| Litigation and regulation will continue to harm the tobacco industry |
| The cigarette industry continues to be challenged on numerous fronts |
| New cases continue to be commenced against Liggett and other cigarette manufacturers |
| As of December 31, 2005, there were approximately 268 individual suits, 11 purported class actions and eight governmental and other third-party payor health care reimbursement actions pending in the United States in which Liggett was a named defendant |
| A civil lawsuit has been filed by the United States federal government seeking disgorgement of approximately dlra289 billion from various cigarette manufacturers, including Liggett |
| A federal appellate court ruled in February 2005 that disgorgement is not an available remedy in the case |
| On June 27, 2005, the government sought to restructure its potential remedies and filed a proposed Final Judgment and Order |
| That relief can be grouped into four categories: (1) dlra14 billion for a cessation and counter marketing program; (2) so-called “corrective statements”; (3) disclosures; and (4) enjoined activities |
| In one of the other cases pending against Liggett, in 2000, an action against cigarette manufacturers involving approximately 1cmam000 named individual plaintiffs was consolidated for trial on some common related issues before a single West Virginia state court |
| Liggett is a defendant in most of the cases pending in West Virginia |
| In January 2002, the court severed Liggett from the trial of the consolidated action |
| Two purported class actions have been certified in state court in Kansas and New Mexico alleging antitrust violations |
| As new cases are commenced, the costs associated with defending these cases and the risks relating to the inherent unpredictability of litigation continue to increase |
| 30 _________________________________________________________________ [85]Table of Contents Class action suits have been filed in a number of states against individual cigarette manufacturers, alleging that the use of the terms “light” and “ultralights” constitutes unfair and deceptive trade practices |
| Philip Morris, et al |
| ), pending in federal court in New York against the cigarette manufacturers, seeks to create a nationwide class of “light” cigarette smokers and includes Liggett as a defendant |
| Plaintiffs’ motion for class certification and summary judgment motions by both sides were heard in September 2005 |
| In November 2005, the Court issued an opinion permitting plaintiffs to seek fluid recovery damages if class certification is granted |
| Fluid recovery would permit potential damages to be paid out in ways other than merely giving cash directly to plaintiffs, such as establishing a pool of money that could be used for public purposes |
| Although trial was scheduled to commence in January 2006, the judge has allowed an additional period for discovery before deciding the class certification issue |
| There are five individual actions where Liggett is the only tobacco company defendant |
| In April 2004, in one of these cases, a jury in a Florida state court action awarded compensatory damages of dlra0dtta5 million against Liggett |
| In addition, plaintiff’s counsel was awarded legal fees of dlra0dtta8 million |
| In March 2005, in another case in Florida state court in which Liggett is the only defendant, the court granted Liggett’s motion for summary judgment disposing of the case in its entirety |
| In March 2006, in another of these cases, a Florida state court jury returned a verdict in favor of Liggett |
| The plaintiff may appeal |
| In May 2003, a Florida intermediate appellate court overturned a dlra790 million punitive damages award against Liggett and decertified the Engle smoking and health class action |
| If the intermediate appellate court’s ruling is not upheld on appeal, it will have a material adverse effect on us |
| In November 2000, Liggett filed the dlra3dtta45 million bond required under the bonding statute enacted in 2000 by the Florida legislature which limits the size of any bond required, pending appeal, to stay execution of a punitive damages verdict |
| In May 2001, Liggett reached an agreement with the class in the Engle case, which provided assurance to Liggett that the stay of execution, in effect under the Florida bonding statute, would not be lifted or limited at any point until completion of all appeals, including to the United States Supreme Court |
| As required by the agreement, Liggett paid dlra6dtta27 million into an escrow account to be held for the benefit of the Engle class, and released, along with Liggett’s existing dlra3dtta45 million statutory bond, to the court for the benefit of the class upon completion of the appeals process, regardless of the outcome of the appeal |
| In June 2002, the jury in an individual case brought under the third phase of the Engle case awarded dlra37dtta5 million (subsequently reduced by the court to dlra25dtta1 million) of compensatory damages against Liggett and two other defendants and found Liggett 50prca responsible for the damages |
| The verdict, which is subject to the outcome of the Engle appeal, has been overturned as a result of the appellate court’s ruling discussed above |
| It is possible that additional cases could be decided unfavorably and that there could be further adverse developments in the Engle case |
| Liggett may enter into discussions in an attempt to settle particular cases if it believes it is appropriate to do so |
| We cannot predict the cash requirements related to any future settlements and judgments, including cash required to bond any appeals, and there is a risk that those requirements will not be able to be met |
| In recent years, there have been a number of proposed restrictive regulatory actions from various federal administrative bodies, including the United States Environmental Protection Agency and the Food and Drug Administration |
| There have also been adverse political decisions and other unfavorable developments concerning cigarette smoking and the tobacco industry, including the commencement and certification of class actions and the commencement of third-party payor actions |
| These developments generally receive widespread media attention |
| We are not able to evaluate the effect of these developing matters on pending litigation or the possible commencement of additional litigation, but our consolidated financial position, results of operations or cash flows could be materially adversely affected by an unfavorable outcome in any smoking-related litigation, which in turn could negatively affect the value of our common stock |
| Liggett may have additional payment obligations under the Master Settlement Agreement and its other settlement agreements with the states |
| In October 2004, Liggett was notified that all participating manufacturers’ payment obligations under the Master Settlement Agreement, dating from the agreement’s execution in late 1998, have been recalculated 31 _________________________________________________________________ [86]Table of Contents utilizing “net” unit amounts, rather than “gross” unit amounts (which have been utilized since 1999) |
| The change in the method of calculation could, among other things, require additional payments by Liggett under the Master Settlement Agreement of approximately dlra9dtta4 million for the periods 2001 through 2004, and require Liggett to pay an additional amount of approximately dlra2dtta8 million in 2005 and in future periods by lowering Liggett’s market share exemption under the Master Settlement Agreement |
| Liggett contends that the retroactive change from utilizing “gross” unit amounts to “net” unit amounts is impermissible and has objected to the change |
| Liggett has disputed the change in methodology |
| No amounts have been accrued in the accompanying consolidated financial statements for any potential liability relating to the “gross” versus “net” dispute |
| On March 30, 2005, the Independent Auditor under the Master Settlement Agreement calculated dlra28dtta7 million in Master Settlement Agreement payments for Liggett’s 2004 sales |
| On April 15, 2005, Liggett paid dlra11dtta7 million of this amount and, in accordance with its rights under the Master Settlement Agreement, disputed the balance of dlra17dtta0 million |
| Of the disputed amount, Liggett paid dlra9dtta3 million into the disputed payments account under the Master Settlement Agreement and withheld from payment dlra7dtta7 million |
| The dlra9dtta3 million paid into the disputed payments account represents the amount claimed by Liggett as an adjustment to its 2003 payment obligation under the Master Settlement Agreement for market share loss to non-participating manufacturers |
| The dlra7dtta7 million withheld from payment represents dlra5dtta3 million claimed as an adjustment to Liggett’s 2004 Master Settlement Agreement obligation for market share loss to non-participating manufacturers and dlra2dtta4 million relating to the retroactive change, discussed above, to the method for computing payment obligations under the Master Settlement Agreement which Liggett contends, among other things, is not in accordance with the Master Settlement Agreement |
| On May 31, 2005, New York State filed a motion on behalf of the settling states in New York state court seeking to compel Liggett and the other subsequent participating manufacturers that paid into the disputed payments account to release to the settling states the amounts paid into such account |
| The settling states contend that Liggett had no right under the Master Settlement Agreement and related agreements to pay into the disputed payments account any amount claimed as an adjustment for market share loss to non-participating manufacturers for 2003, although they acknowledge that Liggett has the right to dispute such amounts |
| By stipulation among the parties dated July 25, 2005, New York’s motion was dismissed and Liggett authorized the release to the settling states of the dlra9dtta3 million it had paid into the account, although Liggett continues to dispute that it owes this amount |
| Liggett intends to withhold from its payment due under the Master Settlement Agreement on April 15, 2006 approximately dlra1dtta6 million which Liggett claims as the non-participating manufacturers adjustment to its 2005 payment obligation |
| As of December 31, 2005, Liggett and Vector Tobacco have disputed the following assessments under the Master Settlement Agreement related to failure to receive credit for market share loss to non-participating manufacturers: dlra6dtta5 million for 2003, dlra3dtta7 million for 2004 and approximately dlra0dtta8 for 2005 |
| These disputed amounts have not been accrued in the accompanying consolidated financial statements |
| In 2004, the Attorneys General for each of Florida, Mississippi and Texas advised Liggett that they believed that Liggett has failed to make all required payments under the respective settlement agreements with these states for the period 1998 through 2003 and that additional payments may be due for 2004 and subsequent years |
| Liggett believes these allegations are without merit, based, among other things, on the language of the most favored nation provisions of the settlement agreements |
| In December 2004, the State of Florida offered to settle all amounts allegedly owed by Liggett for the period through 2003 for the sum of dlra13dtta5 million |
| In March 2005, the State of Florida reaffirmed its December 2004 offer to settle and provided Liggett with a 60 day notice to cure the alleged defaults |
| In November 2005, Florida made a revised offer that Liggett pay Florida dlra4dtta25 million to resolve all matters through December 31, 2005, and pay Florida dlra0dtta17 per pack on all Liggett cigarettes sold in Florida beginning January 1, 2006 |
| After further discussions, Florida’s most recent offer is that Liggett pay a total of dlra3dtta5 million in four annual payments, dlra1 million for the first three years and dlra0dtta5 million in the fourth year, and defer further discussion of any alleged future obligations until the end of Florida’s 2006 legislative session |
| Liggett has not yet responded to this most recent offer from Florida and there can be no assurance that a settlement will be reached |
| In November 2004, the State of Mississippi offered to settle all amounts allegedly owed by Liggett for the period through 2003 for the sum of dlra6dtta5 million |
| In April 2005, the State of Mississippi reaffirmed its November 2004 offer to settle and provided Liggett with a 60 day notice to cure the alleged defaults |
| No specific monetary demand has been made by the 32 _________________________________________________________________ [87]Table of Contents State of Texas |
| Liggett has met with representatives of Mississippi and Texas to discuss the issues relating to the alleged defaults, although no resolution has been reached |
| Except for dlra2dtta0 million accrued for the year ended December 31, 2005 in connection with the foregoing matters, no other amounts have been accrued in our consolidated financial statements for any additional amounts that may be payable by Liggett under the settlement agreements with Florida, Mississippi and Texas |
| There can be no assurance that Liggett will prevail in any of these matters and that Liggett will not be required to make additional material payments, which payments could materially adversely affect our consolidated financial position, results of operations or cash flows and the value of our common stock |
| Liggett has significant sales to a single customer |
| During 2005, 11dtta9prca of Liggett’s total revenues and 11dtta7prca of our consolidated revenues were generated by sales to Liggett’s largest customer |
| Liggett’s contract with this customer currently extends through March 31, 2009 |
| If this customer discontinues its relationship with Liggett or experiences financial difficulties, Liggett’s results of operations could be materially adversely affected |
| Liggett may be adversely affected by recent legislation to eliminate the federal tobacco quota system |
| In October 2004, federal legislation was enacted which abolished the federal tobacco quota system and price support system |
| Pursuant to the legislation, manufacturers of tobacco products will be assessed dlra10dtta1 billion over a ten year period to compensate tobacco growers and quota holders for the elimination of their quota rights |
| Cigarette manufacturers will initially be responsible for 96dtta3prca of the assessment (subject to adjustment in the future), which will be allocated based on relative unit volume of domestic cigarette shipments |
| Liggett’s assessment was approximately dlra25 million for the first year of the program which began January 1, 2005, including a special federal quota stock liquidation assessment of dlra5dtta2 million |
| The relative cost of the legislation to each of the three largest cigarette manufacturers will likely be less than the cost to smaller manufacturers, including Liggett and Vector Tobacco, because one effect of the legislation is that the three largest manufacturers will no longer be obligated to make certain contractual payments, commonly known as Phase II payments, they agreed in 1999 to make to tobacco-producing states |
| The ultimate impact of this legislation cannot be determined, but there is a risk that smaller manufacturers, such as Liggett and Vector Tobacco, will be disproportionately affected by the legislation, which could have a material adverse effect on us |
| Excise tax increases adversely affect cigarette sales |
| Cigarettes are subject to substantial and increasing federal, state and local excise taxes |
| The federal excise tax on cigarettes is currently dlra0dtta39 per pack |
| State and local sales and excise taxes vary considerably and, when combined with the current federal excise tax, may currently exceed dlra4dtta00 per pack |
| In 2005, nine states enacted increases in excise taxes |
| Further increases from other states are expected |
| Congress has considered significant increases in the federal excise tax or other payments from tobacco manufacturers, and various states and other jurisdictions have currently under consideration or pending legislation proposing further state excise tax increases |
| We believe that increases in excise and similar taxes have had an adverse impact on sales of cigarettes |
| Further substantial federal or state excise tax increases could accelerate the trend away from smoking and could have a material adverse effect on Liggett’s sales and profitability, which in turn could negatively affect the value of our common stock |
| Vector Tobacco is subject to risks inherent in new product development initiatives |
| We have made, and plan to continue to make, significant investments in Vector Tobacco’s development projects in the tobacco industry |
| Vector Tobacco is in the business of developing and marketing the low nicotine and nicotine-free QUEST cigarette products and developing reduced risk cigarette products |
| These initiatives are subject to high levels of risk, uncertainties and contingencies, including the challenges inherent in new product development |
| There is a risk that continued investments in Vector Tobacco will harm our results of operations, liquidity or cash flow |
| 33 _________________________________________________________________ [88]Table of Contents The substantial risks facing Vector Tobacco include: Risks of market acceptance of new products |
| In November 2001, Vector Tobacco launched nationwide its reduced carcinogen OMNI cigarettes |
| During 2002, acceptance of OMNI in the marketplace was limited, with revenues of only approximately dlra5dtta1 million on sales of 70dtta7 million units |
| Since 2003, OMNI sales activity has been minimal as Vector Tobacco has not been actively marketing the OMNI product, and the product is not currently in distribution |
| Vector Tobacco was unable to achieve the anticipated breadth of distribution and sales of the OMNI product due, in part, to the lack of success of its advertising and marketing efforts in differentiating OMNI from other conventional cigarettes with consumers through the “reduced carcinogen” message |
| Over the next several years, our in-house research program, together with third-party collaborators, plans to conduct appropriate studies relating OMNI’s reduction of carcinogens to reduced risk in smokers and, based on these studies, we will review the marketing and positioning of the OMNI brand in order to formulate a strategy for its long-term success |
| OMNI has not been a commercially successful product to date, and there is a risk that we will be unable to take action to significantly increase the level of OMNI sales in the future |
| Vector Tobacco introduced its low nicotine and nicotine-free QUEST cigarettes in an initial seven-state market in January 2003 and in Arizona in January 2004 |
| During the second quarter of 2004, based on an analysis of the market data obtained since the introduction of the QUEST product, we determined to postpone indefinitely the national launch of QUEST A national launch of the QUEST brands would require the expenditure of substantial additional sums for advertising and sales promotion, with no assurance of consumer acceptance |
| Low nicotine and nicotine-free cigarettes may not ultimately be accepted by adult smokers and also may not prove to be commercially successful products |
| Adult smokers may decide not to purchase cigarettes made with low nicotine and nicotine-free tobaccos due to taste or other preferences, or due to the use of genetically modified tobacco or other product modifications |
| Recoverability of costs of inventory |
| At December 31, 2005, approximately dlra1dtta2 million of our leaf inventory was associated with Vector Tobacco’s QUEST product |
| We estimate an inventory reserve for excess quantities and obsolete items, taking into account future demand and market conditions |
| During the second quarter of 2004, we recognized a non-cash charge of dlra37 million to adjust the carrying value of excess leaf tobacco inventory for the QUEST product, based on estimates of future demand and market conditions |
| If actual demand or market conditions in the future are less favorable than those estimated, additional inventory write-downs may be required |
| Third party allegations that Vector Tobacco products are unlawful or bear deceptive or unsubstantiated product claims |
| Vector Tobacco is engaged in the development and marketing of low nicotine and nicotine-free cigarettes and the development of reduced risk cigarette products |
| With respect to OMNI, which is not currently being distributed by Vector Tobacco, reductions in carcinogens have not yet been proven to result in a safer cigarette |
| Like other cigarettes, the OMNI and QUEST products also produce tar, carbon monoxide, other harmful by-products, and, in the case of OMNI, increased levels of nitric oxide and formaldehyde |
| There are currently no specific governmental standards or parameters for these products and product claims |
| There is a risk that federal or state regulators may object to Vector Tobacco’s low nicotine and nicotine-free cigarette products and reduced risk cigarette products it may develop as unlawful or allege they bear deceptive or unsubstantiated product claims, and seek the removal of the products from the marketplace, or significant changes to advertising |
| Various concerns regarding Vector Tobacco’s advertising practices have been expressed to Vector Tobacco by certain state attorneys general |
| Vector Tobacco has engaged in discussions in an effort to resolve these concerns and Vector Tobacco has, in the interim, suspended all print advertising for its QUEST brand |
| If Vector Tobacco is unable to advertise its QUEST brand, it could have a material adverse effect on sales of QUEST Allegations by federal or state regulators, public health organizations and other tobacco manufacturers that Vector Tobacco’s products are unlawful, or that its public statements or advertising contain misleading or unsubstantiated health claims or product comparisons, may result in litigation or governmental proceedings |
| Vector Tobacco’s defense against such claims could require it to incur substantial expense and to divert significant efforts of its scientific and marketing personnel |
| An adverse determination in a judicial proceeding or by a regulatory agency could have a material and adverse impact on Vector Tobacco’s business, operating results and prospects |
| 34 _________________________________________________________________ [89]Table of Contents Potential extensive government regulation |
| Vector Tobacco’s business may become subject to extensive additional domestic and international government regulation |
| Various proposals have been made for federal, state and international legislation to regulate cigarette manufacturers generally, and reduced constituent cigarettes specifically |
| It is possible that laws and regulations may be adopted covering matters such as the manufacture, sale, distribution and labeling of tobacco products as well as any health claims associated with reduced risk and low nicotine and nicotine-free cigarette products and the use of genetically modified tobacco |
| A system of regulation by agencies such as the Food and Drug Administration, the Federal Trade Commission and the United States Department of Agriculture may be established |
| In addition, a group of public health organizations submitted a petition to the Food and Drug Administration, alleging that the marketing of the OMNI product is subject to regulation by the Food and Drug Administration under existing law |
| Vector Tobacco has filed a response in opposition to the petition |
| The Federal Trade Commission has expressed interest in the regulation of tobacco products made by tobacco manufacturers, including Vector Tobacco, which bear reduced carcinogen claims |
| The outcome of any of the foregoing cannot be predicted, but any of the foregoing could have a material adverse effect on Vector Tobacco’s business, operating results and prospects |
| Necessity of obtaining Food and Drug Administration approval to market QUEST as a smoking cessation product |
| D, Director of Duke University Medical Center’s Nicotine Research Program and co-inventor of the nicotine patch, had conducted a study at Duke University Medical Center to provide preliminary evaluation of the use of the QUEST technology as a smoking cessation aid |
| We have received guidance from the Food and Drug Administration as to the additional clinical research and regulatory filings necessary to market QUEST as a smoking cessation product |
| We are currently conducting a multi-centered clinical trial with QUEST cigarettes, which should be completed by the end of the first quarter of 2006 |
| We believe that obtaining the Food and Drug Administration’s approval to market QUEST as a smoking cessation product will be an important factor in the long-term commercial success of the QUEST brand |
| No assurance can be given that such approval can be obtained or as to the timing of any such approval if received |
| Competition from other cigarette manufacturers with greater resources |
| Vector Tobacco’s competitors generally have substantially greater resources than Vector Tobacco has, including financial, marketing and personnel resources |
| Other major tobacco companies have stated that they are working on reduced risk cigarette products and have made publicly available at this time only limited additional information concerning their activities |
| Philip Morris has announced it is developing products that potentially reduce smokers’ exposure to harmful compounds in cigarette smoke |
| RJR Tobacco has disclosed that a primary focus for its research and development activity is the development of potentially reduced exposure products, which may ultimately be recognized as products that present reduced risks to health |
| RJR Tobacco has stated that it continues to sell in limited distribution throughout the country a brand of cigarettes that primarily heats rather than burns tobacco, which it claims reduces the toxicity of its smoke |
| There is a substantial likelihood that other major tobacco companies will continue to introduce new products that are designed to compete directly with the low nicotine, nicotine-free and reduced risk products that Vector Tobacco currently markets or may develop |
| Potential disputes concerning intellectual property |
| Vector Tobacco’s ability to commercially exploit its proprietary technology for its reduced carcinogen and low nicotine and nicotine-free products depends in large part on its ability to obtain and defend issued patents, to obtain further patent protection for its existing technology in the United States and other jurisdictions, and to operate without infringing on the patents and proprietary rights of others both in the United States and abroad |
| Additionally, it must be able to obtain appropriate licenses to patents or proprietary rights held by third parties if infringement would otherwise occur, both in the United States and in foreign countries |
| Intellectual property rights, including Vector Tobacco’s patents (owned or licensed), involve complex legal and factual issues |
| Any conflicts resulting from third party patent applications and granted patents could significantly limit Vector Tobacco’s ability to obtain meaningful patent protection or to commercialize its technology |
| If patents currently exist or are issued to other companies that contain claims which encompass Vector Tobacco’s products or the processes used by Vector Tobacco to manufacture or develop its products, 35 _________________________________________________________________ [90]Table of Contents Vector Tobacco may be required to obtain licenses to use these patents or to develop or obtain alternative technology |
| Licensing agreements, if required, may not be available on acceptable terms or at all |
| If licenses are not obtained, Vector Tobacco could be delayed in, or prevented from, pursuing the further development or marketing of its new cigarette products |
| Any alternative technology, if feasible, could take several years to develop |
| Litigation which could result in substantial cost also may be necessary to enforce any patents to which Vector Tobacco has rights, or to determine the scope, validity and unenforceability of other parties’ proprietary rights which may affect Vector Tobacco’s rights |
| Vector Tobacco also may have to participate in interference proceedings declared by the US Patent and Trademark Office to determine the priority of an invention or in opposition proceedings in foreign counties or jurisdictions, which could result in substantial costs |
| There is a risk that its licensed patents would be held invalid by a court or administrative body or that an alleged infringer would not be found to be infringing |
| The mere uncertainty resulting from the institution and continuation of any technology-related litigation or any interference or opposition proceedings could have a material and adverse effect on Vector Tobacco’s business, operating results and prospects |
| Vector Tobacco may also rely on unpatented trade secrets and know-how to maintain its competitive position, which it seeks to protect, in part, by confidentiality agreements with employees, consultants, suppliers and others |
| There is a risk that these agreements will be breached or terminated, that Vector Tobacco will not have adequate remedies for any breach, or that its trade secrets will otherwise become known or be independently discovered by competitors |
| Dependence on key scientific personnel |
| Vector Tobacco’s business depends on the continued services of key scientific personnel for its continued development and growth |
| Anthony Albino, Vector Tobacco’s Senior Vice President of Public Health Affairs, could have a serious negative impact upon Vector Tobacco’s business, operating results and prospects |
| If Vector Tobacco succeeds in introducing to market and increasing consumer acceptance for its new cigarette products, Vector Tobacco will be required to obtain significant amounts of additional capital and manage substantial volume from its customers |
| There is a risk that adequate amounts of additional capital will not be available to Vector Tobacco to fund the growth of its business |
| To accommodate growth and compete effectively, Vector Tobacco will also be required to attract, integrate, motivate and retain additional highly skilled sales, technical and other employees |
| Vector Tobacco will face competition for these people |
| Its ability to manage volume also will depend on its ability to scale up its tobacco processing, production and distribution operations |
| There is a risk that it will not succeed in scaling its processing, production and distribution operations and that its personnel, systems, procedures and controls will not be adequate to support its future operations |
| Potential delays in obtaining tobacco, other raw materials and any technology needed to produce products |
| Vector Tobacco is dependent on third parties to produce tobacco and other raw materials that Vector Tobacco requires to manufacture its products |
| In addition, the growing of new tobacco and new seeds is subject to adverse weather conditions |
| Vector Tobacco may also need to obtain licenses to technology subject to patents or proprietary rights of third parties to produce its products |
| The failure by such third parties to supply Vector Tobacco with tobacco, other raw materials and technology on commercially reasonable terms, or at all, in the absence of readily available alternative sources, would have a serious negative impact on Vector Tobacco’s business, operating results and prospects |
| There is also a risk that interruptions in the supply of these materials and technology may occur in the future |
| Any interruption in their supply could have a serious negative impact on Vector Tobacco |
| The actual costs and savings associated with restructurings of our tobacco business may differ materially from amounts we estimate |
| In recent years, we have undertaken a number of initiatives to streamline the cost structure of our tobacco business and improve operating efficiency and long-term earnings |
| For example, during 2002, the sales, marketing and support functions of our Liggett and Vector Tobacco subsidiaries were combined |
| Effective year-end 2003, we closed Vector Tobacco’s Timberlake, North Carolina manufacturing facility and moved all 36 _________________________________________________________________ [91]Table of Contents production to Liggett’s facility in Mebane, North Carolina |
| In April 2004, we eliminated a number of positions in our tobacco operations and subleased excess office space |
| In October 2004, we announced a plan to restructure the operations of Liggett Vector Brands, effective December 15, 2004 |
| We may consider various additional opportunities to further improve efficiencies and reduce costs |
| These prior and current initiatives have involved material restructuring and impairment charges, and any future actions taken are likely to involve material charges as well |
| These restructuring charges are based on our best estimate at the time of restructuring |
| The status of the restructuring activities is reviewed on a quarterly basis and any adjustments to the reserve, which could differ materially from previous estimates, are recorded as an adjustment to operating income |
| Although we may estimate that substantial cost savings will be associated with these restructuring actions, there is a risk that these actions could have a serious negative impact on our tobacco business and that any estimated increases in profitability cannot be achieved |
| New Valley is subject to risks relating to the industries in which it operates |
| New Valley has three significant investments, Douglas Elliman Realty, LLC, the Sheraton Keauhou Bay Resort & Spa (which reopened in the fourth quarter 2004) and the St |
| Regis Hotel in Washington, D C (since August 2005), in each of which it holds only a 50prca interest |
| New Valley must seek approval from other parties for important actions regarding these joint ventures |
| Since these other parties’ interests may differ from those of New Valley, a deadlock could arise that might impair the ability of the ventures to function |
| Such a deadlock could significantly harm the ventures |
| New Valley may pursue a variety of real estate development projects |
| Development projects are subject to special risks including potential increase in costs, changes in market demand, inability to meet deadlines which may delay the timely completion of projects, reliance on contractors who may be unable to perform and the need to obtain various governmental and third party consents |
| Risks relating to the residential brokerage business |
| Through New Valley’s investment in Douglas Elliman Realty, LLC, we are subject to the risks and uncertainties endemic to the residential brokerage business |
| Both Douglas Elliman and Prudential Douglas Elliman Real Estate operate as franchisees of The Prudential Real Estate Affiliates, Inc |
| Prudential Douglas Elliman operates each of its offices under its franchiser’s brand name, but generally does not own any of the brand names under which it operates |
| The franchiser has significant rights over the use of the franchised service marks and the conduct of the two brokerage companies’ business |
| The franchise agreements require the companies to: • coordinate with the franchiser on significant matters relating to their operations, including the opening and closing of offices; • make substantial royalty payments to the franchiser and contribute significant amounts to national advertising funds maintained by the franchiser; • indemnify the franchiser against losses arising out of the operations of their business under the franchise agreements; and • maintain standards and comply with guidelines relating to their operations which are applicable to all franchisees of the franchiser’s real estate franchise system |
| The franchiser has the right to terminate Douglas Elliman’s and Prudential Douglas Elliman Real Estate’s franchises, upon the occurrence of certain events, including a bankruptcy or insolvency event, a change in control, a transfer of rights under the franchise agreement and a failure to promptly pay amounts due under the franchise agreements |
| A termination of Douglas Elliman’s or Prudential Douglas Elliman Real Estate’s franchise agreement could adversely affect our investment in Douglas Elliman Realty |
| The franchise agreements grant Douglas Elliman and Prudential Douglas Elliman Real Estate exclusive franchises in New York for the counties of Nassau and Suffolk on Long Island and for Manhattan, Brooklyn and Queens, subject to various exceptions and to meeting specified annual revenue thresholds |
| If the two companies fail to achieve these levels of revenues for two consecutive years or otherwise materially breach the 37 _________________________________________________________________ [92]Table of Contents franchise agreements, the franchisor would have the right to terminate their exclusivity rights |
| A loss of these rights could have a material adverse on Douglas Elliman Realty |
| Interest rates in the United States are currently at historically low levels |
| The low interest rate environment in recent years has significantly contributed to high levels of existing home sales and residential prices and has positively impacted Douglas Elliman Realty’s operating results |
| However, the residential real estate market tends to be cyclical and typically is affected by changes in the general economic conditions that are beyond Douglas Elliman Realty’s control |
| Any of the following could have a material adverse effect on Douglas Elliman Realty’s residential business by causing a general decline in the number of home sales and/or prices, which in turn, could adversely affect its revenues and profitability: • periods of economic slowdown or recession, • a change in the current low interest rate environment resulting in rising interest rates, • decreasing home ownership rates, or • declining demand for real estate |
| All of Douglas Elliman Realty’s current operations are located in the New York metropolitan area |
| Local and regional economic conditions in this market could differ materially from prevailing conditions in other parts of the country |
| A downturn in the residential real estate market or economic conditions in that region could have a material adverse effect on Douglas Elliman Realty and our investment in that company |
| Potential new investments we may make are unidentified and may not succeed |
| We currently hold a significant amount of marketable securities and cash not committed to any specific investments |
| This subjects a security holder to increased risk and uncertainty because a security holder will not be able to evaluate how this cash will be invested and the economic merits of particular investments |
| There may be substantial delay in locating suitable investment opportunities |
| In addition, we may lack relevant management experience in the areas in which we may invest |
| There is a risk that we will fail in targeting, consummating or effectively integrating or managing any of these investments |
| We depend on our key personnel |
| We depend on the efforts of our executive officers and other key personnel |
| While we believe that we could find replacements for these key personnel, the loss of their services could have a significant adverse effect on our operations |
| While we believe our controls systems are effective, there are inherent limitations in all control systems, and misstatements due to error or fraud may occur and not be detected |
| We continue to take action to assure compliance with the internal controls, disclosure controls and other requirements of the Sarbanes-Oxley Act |
| A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met |
| In addition, the design of a control system must reflect the fact that there are resource constraints and the benefit of controls must be relative to their costs |
| Because of the inherent limitations in all control systems, no system of controls can provide absolute assurance that all controls issues and instances of fraud, if any, within our company have been detected |
| These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake |
| Further, controls can be circumvented by individual acts of some persons, by collusion of two or more persons, or by management override of the controls |
| The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions |
| Over time, a control may be inadequate because of changes in conditions or the degree of compliance with the policies or procedures may deteriorate |
| Because of inherent 38 _________________________________________________________________ [93]Table of Contents limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected |
| The price of our common stock may fluctuate significantly, and this may make it difficult for you to resell the shares of our common stock issuable upon exchange when you want or at prices you find attractive |
| The trading price of our common stock has ranged between dlra14dtta29 and dlra20dtta82 per share over the past 52 weeks |
| We expect that the market price of our common stock will continue to fluctuate |
| The market price of our common stock may fluctuate in response to numerous factors, many of which are beyond our control |
| These factors include the following: • actual or anticipated fluctuations in our operating results; • changes in expectations as to our future financial performance, including financial estimates by securities analysts and investors; • the operating and stock performance of our competitors; • announcements by us or our competitors of new products or services or significant contract, acquisitions, strategic partnerships, joint ventures or capital commitments; • the initiation or outcome of litigation; • changes in interest rates; • general economic, market and political conditions; • additions or departures of key personnel; and • future sales of our equity or convertible securities |
| We cannot predict the extent, if any, to which future sales of shares of common stock or the availability of shares of common stock for future sale may depress the trading price of our common stock |
| In addition, the stock market in recent years has experienced extreme price and trading volume fluctuations that often have been unrelated or disproportionate to the operating performance of individual companies |
| These broad market fluctuations may adversely affect the price of our common stock, regardless of our operating performance |
| Furthermore, stockholders may initiate securities class action lawsuits if the market price of our stock drops significantly, which may cause us to incur substantial costs and could divert the time and attention of our management |
| These factors, among others, could significantly depress the price of our common stock issued upon exchange |
| We have many potentially dilutive securities outstanding |
| At December 31, 2005, we had outstanding options granted to employees to purchase approximately 8cmam567cmam174 shares of our common stock, at prices ranging from dlra6dtta93 to dlra35dtta81 per share, of which options for 8cmam426cmam597 shares were exercisable at December 31, 2005 |
| We also have outstanding two series of convertible notes maturing in July 2008 and November 2011, which are currently convertible into 12cmam153cmam247 shares of our common stock |
| The issuance of these shares will cause dilution which may adversely affect the market price of our common stock |
| The availability for sale of significant quantities of our common stock could adversely affect the prevailing market price of the stock |