$145 Billion Tobacco Award Was Priced Into the Market

Though the penalty would theoretically bankrupt the industry many times over, tobacco stocks hold steady.
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Updated from 4:31 p.m. EDT

It's the biggest liability award in U.S. business history. Even so, it seems, the staggering $145 billion smoker settlement had been figured into the price of tobacco stocks.

Tobacco

stocks slipped Friday after a Miami jury ordered cigarette makers to pay $145 billion in punitive damages, a penalty that would theoretically bankrupt the industry many times over. Still, despite the staggering sum, shares of cigarette makers barely budged after the verdict was announced, closing just 1% to 3% lower.

That may be in part because investors had largely priced in a substantial penalty amount. In addition, the companies have proven themselves able adversaries after weathering a number of tobacco-related lawsuits and winning most of them.

Before Friday, the tobacco industry had won 12 of 15 tobacco trials, or 80%, since 1996 -- a record

Morgan Stanley Dean Witter

analysts call "outstanding" for any industry. The three losses are under appeal.

The five companies named in this suit issued statements immediately after Friday's decision was announced saying they would appeal the verdict, the largest amount ever awarded in a U.S. civil case. Analysts and industry observers say it is likely the amount will be trimmed considerably.

News of the verdict in the so-called Engle class-action lawsuit initially sent the

S&P Tobacco Index

down 4%, to 1212.35, but it quickly rebounded ending the day off less than 1% at 1258.89. The index had been up more than 2% just minutes before Judge Robert Kaye read the verdict.

Shares of

Philip Morris

, the world's largest tobacco company and maker of Marlboro cigarettes, slipped 3/16 to close at 24 11/16, after the jury called for it to pay $73.96 billion in punitive damages.

R.J. Reynolds Tobacco

(RJR)

, maker of Camels and Dorals, was ordered to pay $36.28 billion. Its shares fell 15/16, or 3%, to close at 26 3/16.

No. 3 U.S. cigarette maker

Brown & Williamson

, a unit of

British American Tobacco

(BTI) - Get Report

, was ordered to pay $17.59 billion. British American Tobacco shares fell 7/16, or 3%, to finish at 12 5/16.

America's oldest tobacco company,

Lorillard

, owned by

Loews

(LTR)

, was ordered to pay $16.25 billion. Loews shares dropped 7/16, or 1%, to end regular trading at 63 1/16.

The smallest of the corporate defendants, discount cigarette-maker Liggett, was ordered to pay $790 million.

Vector Group

(VGR) - Get Report

, the company formerly known as

Brooke Group

and owner of Liggett, closed off 7/16 at 14 7/16.

Two trade groups funded by the industry also were penalized:

The Council for Tobacco Research

was ordered to pay $1.95 billion and the

Tobacco Institute

was required to pay $278,339.

Though the cigarette makers' share prices remained relatively stable, the uncertainty surrounding their futures could weigh heavily on their stocks for some time.

Bankruptcy is still a possibility as the industry faces a suit from the

Department of Justice

, a group of cases pending in Brooklyn, N.Y., before U.S. District Judge Jack Weinstein and hundreds of suits by individual smokers. Filing for bankruptcy protection would not stop the manufacture or sale of cigarettes, but rather put the companies under the protection of the court while they devise a plan to pay claimants.

But industry analysts were skeptical that the cigarette makers would actually have to pay the amount of damages awarded Friday -- or any sum close to it.

In an interview with

Reuters

, Morgan Stanley Dean Witter tobacco analyst David Adelman called the value of the award "so absurd it speaks to the absurdity of the process" and said the companies will win the case on appeal.

The award dwarfs the record of $5 billion in damages against

Exxon

in 1994 for the Exxon Valdez oil spill.

One industry watcher, an attorney himself, figured the amount of the punitive damage award will be overturned eventually as violating the due process clause of the 14th Amendment to the Constitution and a "reasonable amount" would be inserted, at a fraction of the current amount.

Under Florida law, a punitive verdict cannot bankrupt a defendant.

The Miami jury ignored instructions from Dade County Circuit Judge Robert P. Kaye, who ruled that any punitive award must be based on current financial resources of the five tobacco companies. Together, the five cigarette makers claim a combined net worth of about $15 billion. That amount is roughly equal to one to four days in wholesale cigarette sales. The companies, who have never paid any damages to smokers, would have to borrow money or pay damages from cash flows years into the future, plaintiffs' attorneys have suggested.

The jurors, who have heard testimony since October 1998, had already found the companies and two trade groups liable for heart disease, lung cancer and 18 other ailments among an estimated 500,000 or more unidentified Florida smokers. Tobacco lawyers have pledged to appeal the liability and damages verdicts, and they could still negotiate a more modest settlement.

Plaintiffs attorneys had requested from $123 billion to $196 billion in punitive damages in the first smokers' class-action suit to go to trial. Lawyers for the tobacco companies have said they could afford $150 million to $375 million and would be out of business if the award went much higher.

In the appeals phase, the tobacco companies will likely begin by arguing that the case should never have been granted class-action status. More than 20 state and federal appeals courts have ruled that smoking and health claims should not be resolved through class actions because differences among claims outweigh similarities.

But Florida lawmakers have already neutralized the most immediate threat to cigarette makers, adopting a law in May that caps the amount of an appeal bond at $100 million. Forestalling payment of a judgment during an appeal normally requires a bond to be posted in the full amount, which prior to passage of the bill had triggered discussion of bankruptcies arising from the Engle case.

The jury returned its verdict after deliberating for around 4 1/2 hours. It had received 12 minutes of legal notes, including an instruction to not consider as punishment the $246 billion the companies are paying through 2021 to state governments under 1990s legal settlements.

The case, named after a Miami pediatrician with emphysema, is only the second class action massing the claims of similarly injured plaintiffs to come to trial against U.S. cigarette makers.