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John Middleton purchased by Altria

Cigars have replaced cigarettes.

That's at least according to Altria, which on Thursday agreed to spend $2.9 billion (2.01 billion EUR) cash for John Middleton, maker of large, machine-made cigars.

With cigarette consumption steadily declining in the U.S., Altria has looked for products, such as cigars and smokeless tobacco, to replace those losses. Altria Group owns Philip Morris USA, maker of brands like Marlboro, Virginia Slims, Parliament and Basic, and started earlier this year to use its recognizable Marlboro brand to test market smokeless products in the Dallas/Fort Worth and Atlanta metropolitan areas.

"It fits squarely with our announced strategy to grow our U.S. tobacco business beyond cigarettes and complements our recent initiatives in the smokeless category," Philip Morris USA chief executive Michael Szymanczyk said in a statement. In the third quarter, domestic cigarette volume declined between 3 percent to 4 percent.

In the deal to buy John Middleton Inc., maker of Black & Mild cigars, Altria Group Inc. said the purchase price includes about $700 million (485.34 million EUR) in tax benefits. Excluding those benefits, the acquisition is valued at $2.2 billion (1.53 billion EUR).

The company said it will finance the deal with existing cash. Altria is buying John Middleton from privately held Bradford Holdings.

"The business provides a growing stream of operating income to Altria's very mature U.S. cigarette franchise, as well as a broader platform for future growth," Morgan Stanley analyst David Adelman told investors in a research note. He criticized Altria for paying what he said was "full price," however.

The acquisition comes as Altria prepares to spin off its Philip Morris International division. The board is expected to announce the exact timing of the spinoff on Jan. 30. The split, analysts say, would free the international unit to more aggressively pursue sales in emerging markets without the legal and regulatory constraints the U.S. unit faces.

John Middleton makes large machine-made cigars. The research group Information Resources Inc. estimates the company holds about 24 percent of the total retail cigar market in the U.S. Nearly all of its share, or 23 percent of the total market, comes from its Black & Mild brand.

Altria estimated the growth rate for large machine-made cigars was 4 percent annually from 2003 to 2007.

Altria said it expects John Middleton's revenue to reach $360 million (249.6 million EUR) in 2007 and operating income to hit about $183 million (126.88 million EUR). Altria said it expects the deal to close by the end of the year. The acquisition should add to earnings next year.

Altria's break-up plans call for consolidating domestic cigarette production in Richmond, Virginia, and moving all international manufacturing to plants outside the U.S. Philip Morris International is based in Lausanne, Switzerland.

Besides the Philip Morris units, Altria owns a 29 percent stake in London-based SABMiller PLC, which brews Miller Lite beer.

The spin off of Philip Morris International is the next step in a restructuring that started with the spin-off of its majority stake in Kraft Foods Inc. in March.

Altria, the parent company now based in New York, will move its headquarters to Richmond, where Philip Morris USA is located, and cut 400 jobs. It has also opened a research center in Richmond to develop new products to replace cigarettes.

Altria shares fell 84 cents to $72.09 in afternoon trade Thursday.

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