UST, Inc. Q3 2007 Earnings Call Transcript

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Q3 2007 Earning Call October 25, 2007 9:00 AM ET


Mark Rozelle – Vice President, Investor Relations

Daniel Butler – President, U.S. Smokeless Tobacco Subsidiary

Raymond Silcock – Senior Vice President and ChiefFinancial Officer

Murray Kessler - President and Chief Executive Officer


Judy Hong - Goldman Sachs

Bonnie Herzog - Citigroup

Nik Modi - UBS

Filippe Goossens - Credit Suisse

Ann Gurkin - Davenport

Christine Farkas - Merrill Lynch

Karen Lamark - Federated Investors

David Adelman - Morgan Stanley

Thomas Russo - Gardner Russo



Good day,ladies and gentlemen, and welcome to the third quarter 2007 UST earningsconference call. (Operator Instructions).

I would nowlike to turn the presentation over to your host for today's conference, Mr.Mark Rozelle, Investor Relations.


Thank you forjoining us this morning as we discuss our third quarter 2007 results. For thosewho have not seen the release, it is available on our website under the InvestorRelations section.

Thispresentation is being webcast live and is available in playback mode. The audiowill also be available on our website in an MP3 format which can be downloadedto a player such as an iPod.

Hosting thecall will be Murray Kessler, President and CEO of UST. Also joining us withremarks today will be Daniel Butler, President of our U.S Smokeless Tobaccosubsidiary, and Raymond Silcock, our CFO. At the end of our prepared remarks,Murray and the team will take your questions.

In order tohelp you understand the company and its results, we will be made someforward-looking statements. Accordingly, it is possible that our actual resultsmay differ from the predictions we make today. Additional information regardingfactors that could make such a difference appear in our Safe Harbor statement included in our public filings.

We will alsobe discussing non-GAAP financial measures in this presentation. A completereconciliation of GAAP to non-GAAP financial measures can be found in the pressrelease we issued this morning.

I will nowturn the call over to Murray.

Murray Kessler

Good morningand thank you for participating in UST's third-quarter earnings call. We'redoing this call from Stamford, Connecticut, as we completed our company headquarters relocation as scheduled inmid-September. So let's get started.

During thethird quarter, UST achieved broad-based financial success tracing to strongvolume growth in both our Smokeless Tobacco and Wine divisions and ProjectMomentum cost savings, which were used to both enhance margins and fuel volumegrowth. Financial results also benefited from the company's share repurchaseprogram and a lower effective tax rate.

As a result,consolidated third-quarter net sales increased 4.6% versus a year ago. DilutedEPS increased 15.1% versus a year ago to $0.84. And as shown in thereconciliation table in this morning's release, underlying diluted EPSincreased 13% to $0.87.

I will sharesome brief highlights from the quarter. Then Daniel Butler, President of U.SSmokeless Tobacco Company, will review USSTC results in more detail, and RaymondSilcock, our Chief Financial Officer, will provide more detail on financialresults. We will answer your questions at the end of our prepared comments.

Let's startwith volume growth. Noteworthy is the strong growth achieved by U.S SmokelessTobacco Company during the quarter. Total USSTC third-quarter volume was up4.6% versus a year ago, and premium volume was up 2.7%, our strongest quarterlygrowth in over 10 years.

As you haveheard us say in the past, accelerating profitable volume growth is a toppriority for USSTC. Specifically, our goal is to grow more in line with thecategory through brand building, product innovation, premium loyalty, andcompeting effectively in all category segments.

As you seefrom the results in the quarter, we are making great progress on that goal andit is for this reason that USSTC's share has been relatively stablesequentially for the last three reported 26-week periods.

Equallynoteworthy is the continued volume growth of Ste. Michelle Wine Estates, whichincreased 12.6% in the quarter through a combination of robust core brandgrowth, particularly the Chateau Ste. Michelle brand, and the continuedincremental contribution from Erath and new products.

In addition,Ste. Michelle Wine Estates' results for the quarter were positively impactedfrom the Stag's Leap Wine Cellars acquisition, which closed on September 11. Weexpect Stag's Leap to have an even more meaningful impact on fourth-quarterSte. Michelle results.

Of note, Ste.Michelle Wine Estates remained the fastest-growing top 10 winery in the U.Sduring the third quarter, and Chateau Ste. Michelle was the fastest-growing top25 brand.

Second, abrief comment on category growth. Growth remains brisk in each of thecategories we compete in. The moist smokeless tobacco category was up 6.7% forthe 26 weeks ending September 8, 2007, slightly above the high end of our forecast. Thesuper-premium and ultra-premium wine segments combined, where we primarilycompete, were up 11% for the most recent quarter.

Third, ProjectMomentum had a significant impact on our cost structure and, as a result,positively impacted earnings and operating margins for the quarter. Theconsolidated UST adjusted operating margin increased 140 basis points versus a yearago to 47.1%, despite the negative mix impact from wine. This is exactly howProject Momentum is intended to work, facilitating investment to accelerateprofitable volume growth while protecting or even growing operating margins.

And fourth, acomment on share repurchases. Based on the lower share price we experienced inthe third quarter, which was obviously unrelated to business fundamentals, the companydecided to accelerate the discretionary portion of its share repurchaseprogram, buying back $130 million of its own shares during the quarter.

So, if youlook at the $0.10 of underlying diluted EPS growth for the quarter and break itinto its components, you'll see that $0.04 came from increased sales driven bystrong volume growth in moist smokeless tobacco and wine; $0.03 came from costreductions attributable to Project Momentum; $0.02 came from the effect of the company'sshare repurchase program, and the remaining $0.01 came from a lower effectivetax rate.

This is a gooddemonstration of how UST is utilizing the various tools available to it, asneed be, to deliver its stated goal of an average 10% total shareholder return,which is a combination of EPS growth and our strong dividend yield, while atthe same time investing in its brands to accelerate profitable volume growth.

We like todescribe this as our expanded toolbox, which we view as essential to deliveringthat 10% total shareholder return goal on a consistent and sustainable basisover the long term.

Based on thecontinued strong fundamentals in the third quarter and our positive outlook forthe fourth quarter, we are raising earnings guidance for the third time thisyear. We now forecast underlying diluted EPS for the full-year 2007 of $3.42per share, which is slightly above the high-end of our previous range and $0.07above our previous estimate.

We are alsoraising our annual guidance range to $3.40 to $3.44. Essentially, we havepassed all of the third-quarter favorability through to the year, and ourfourth-quarter estimate remains unchanged.

Separately,you may have noticed during the quarter that the company has publicly taken theposition that it would support FDA regulation of tobacco if several issues offairness and issues related to the distinct differences between smokelesstobacco and cigarettes can be addressed. We believe that they can be, and arehopeful that the bill can evolve to a point that we would support it.

So inconclusion, we are obviously pleased with the third-quarter financial results,but are even more pleased with the fundamentals of the business. I will nowturn the call over to Daniel Butler, who will provide more detail on the robustUSSTC results for the quarter.


Thank you, Murray. Good morning, everyone. The Smokeless Tobaccosegment had a strong quarter, reporting underlying operating profit growth ofplus 7.5% versus year-ago, driven by increased revenue and reduced costs. Solidvolume growth in both premium and price value brands translated into net salesgrowth of plus 1.8%.

Favorablecosts related to Project Momentum helped drive a 300 basis point improvement inadjusted operating margin versus year-ago to 56.4%. The highlight of thequarter once again was solid net can volume growth for our smokeless products.

Total net canvolume was up 4.6% versus year-ago, marking seven consecutive quarters ofoverall growth. USSTC premium volume was up a strong 2.7%.

As mentionedin our second quarter conference call, Q2 volume results were a bit lower andexpected Q3 results a bit higher than the underlying trend due to timingdifferences primarily related to the 4th of July holiday. This was the case,and therefore we believe year-to-date volume trends are more indicative of trueunderlying performance, since they eliminate that timing difference.

On ayear-to-date basis, USSTC premium shipments are up 1.9% versus year-ago, nearlydouble our originally stated goal of 1% premium volume growth for the year andmodestly favorable to our upwardly revised goal of 1.5% underlying growth onthe year.

Now let meprovide a little more color on Q3 volume results. First, premium volumeincreased for the fifth consecutive quarter and was in line with ourexpectations. This growth is particularly encouraging as we are now postinggrowth on top of the plus 0.7% growth reported in the third quarter of lastyear.

Second, the Copenhagen brand was the primary driver of premiumperformance, with growth fueled roughly equally by core item growth and thepipeline volume associated with the strong trade acceptance of new Cope, whichbegan shipping on September 17th.

You may recallthat new Cope is a sub-line of the original Copenhagen brand consisting of two new items, Cope SmoothHickory and Cope Whiskey Blend, as well as a re-branded Copenhagen Long CutStraight. The new Cope SKUs are natural style products that have a smootherprofile than the original Copenhagen in the easier-to-use long cut style. These more approachableproducts will enable the Copenhagen brand to reach out to new-to-category adults, primarily smokers, sothat the brand can more fully participate in category growth.

Third, theSkoal brand also posted positive results, primarily driven by Skoal CitrusBlend, which was introduced in Q1 in both long cut and pouch format. SkoalCitrus Blend was selected this month by the respected C-store industrypublication, CST Magazine, as the best new product in the Other TobaccoProducts category in 2007.

Notably, thismarks the second consecutive quarter that both of our leading brands, Copenhagen and Skoal, were up versus year-ago, and we arepleased to see both brands growing.

Fourth, weagain posted strong double-digit growth on Copenhagen and Skoal pouches versus year-ago. The totalportion pack business, including both Cope, Skoal pouches plus Skoal Bandit,showed mid-single digit growth as we lapped the reintroduction of Skoal Banditin Q3 of last year and the associated pipeline volume. As an easier-to-use,more discreet smokeless tobacco option, portion packs continue to appeal tosmokers who switch to MST.

Fifth, on theprice value side, USSTC growth accelerated to plus 16.3%. Husky contributed themajority of the growth with a strong double-digit increase powered by a focuson expanding distribution. Red Seal turned in high single digit growth, itsstrongest since early 2004, benefiting from focused promotional investment.

It’s importantto note that USSTC's accelerated growth in PV came concurrent with strongpremium volume and is consistent with a balanced portfolio approach designed toprofitably accelerate volume.

Sixth andfinally, we continue to see an increasingly strong volume contribution from newproducts that have been introduced in the last three years. These productsinclude several new Skoal long cut and pouch SKUs, new and improved Bandit, theCope sub-line, and the Husky PV line. In total, they contributed 14% of totalcan volume during the quarter.

Now let meturn to RAD-SVT data, which is our measure of consumer takeaway. I will bereporting on the RAD-SVT results for the full 26-week period ended September 8, 2007. Please note thatthese results do not include the launch of new Cope, which began shipping justafter this reporting period.

Starting withthe category, total MST category volume growth continued at a strong pace ofplus 6.7% versus year-ago, in line with the growth we reported in Q2 andslightly higher than our full-year projection of plus 5% to 6%. Given theconsistent robust growth year-to-date, we now believe that full-year categorygrowth will be at least 6%.

For USSTC,total RAD volume grew plus 3.5% versus year-ago and we continue to seeencouraging trends in share. Total USSTC volume share for the period was 61.0%,down 1.9 points versus year-ago, but essentially flat to the 61.2% share wereported last quarter.

The rate ofyear-over-year share decline continues to moderate as our sequential share isstabilizing, another clear sign that our plans are working. From a revenuestandpoint, total USSTC revenue share continues to be very strong at 73%,driven by our leadership of the premium segment.

Now turning tovolume performance by segment, the overall premium segment grew plus 1.3%versus year-ago, representing 56.1% of total category volume. USSTC premiumvolume increased plus 2.1%, and our share of the premium segment increased plus0.7 percentage points to 91.1%.

The strengthof our premium brands continues to be broad-based, with 36 states thatrepresent 77% of our premium volume growing. As we saw in our shipments, both Copenhagen and Skoal brands grew strongly during the period.In the price value segment, volume grew 14.5% versus year-ago and represented43.8% of category volume.

Total USSTC PVvolume growth accelerated to plus 11.3% versus year-ago for the 26-week period.Our Husky brand continued to outpace the overall segment, while Red Sealdelivered mid-single digit growth. USSTC's share of the total PV segment was22.7%, down 0.6 percentage points versus year-ago, but essentially flat to the 22.6%share of segment we reported last quarter.

So tosummarize our key takeaways from the shipment and RAD results; first, withthree-quarters of the year behind us, category growth continues to be robustwith moist smokeless tobacco a leading growth category within consumer-packagedgoods. Our company's continued commitment to attract adult smokers to thecategory and our premium brand-building efforts are fueling this growth.

Second, bothof our leading premium brands continued growth this quarter behind theinvestment in the premium loyalty plan, strong brand building, and thecontribution of portion packs. This performance is especially notable, as wehave now reported five consecutive quarters of premium volume growth, a clearindication that our plans are driving sustainable results.

Third, theprice value segment continues to grow, though at a much lower rate than inprevious years, as USSTC's premium brand loyalty is improving. USSTC pricevalue brand performance is improving behind the distribution build on Husky anda focused promotional plan on Red Seal, without negatively impacting USSTCpremium volume trends.

Fourth andfinally, new products are making a significant contribution to our sales,fueled by the recent successful launches of Skoal Citrus Blend in long cut andpouches and the Cope sub-line. These kinds of new products differentiate ourpremium brand from competition and provide more approachable forms and flavorsfor adult smokers who continue to switch to smokeless tobacco.

So, given ourstrong fundamentals, the remainder of the year looks bright. Specifically, weexpect the category to be up at least 6% for the full-year 2007. With continuedcategory growth and improved share performance, we expect to see continued volumegrowth on all of our key brands. Specifically, we now believe that full-yearunderlying premium volume growth will be close to 2%.

Now let megive you a bit of guidance on how the fourth quarter will be affected by theextra delivery day in December and the increased spending behind brandbuilding.

First, forUSSTC an extra delivery day is like an extra full week of shipments, since wedeliver the bulk of our volume once a week on Mondays and December 31st is aMonday this year. Having said that, the end of December is a seasonally softperiod for the business, and it is an un-promoted week. So the impact will besignificantly less than the roughly 12 million weekly cans that we deliver onaverage and that you might estimate by dividing our annual volume by 52. Theimpact of this extra delivery day has been built into our plans from thebeginning.

On thespending side, the fourth quarter includes additional investments in brandbuilding to further strengthen our brands and sustain volume growth going forward.The heavier fourth-quarter spending will be focused on the Copenhagen and Skoal brands, primarily in the areas of brandcommunication through print advertising, one-on-one, and adult consumer basedloyalty programs.

Let me providea few examples. First, Copenhagen. The brand recently launched a national loyalty program wherebyadult consumers can collect points over a period of time and redeem thosepoints for merchandise by entering promotional codes on our website. We havebeen developing and testing that program over the last two years and are nowrolling it out nationally. The website can be found

For Skoal, thebrand has just launched a new advertising campaign called Welcome to theBrotherhood. The advertising has tested extremely well, and we are makingadditional investments in the new brand website, Thewebsite launched just last week and it strongly reinforces the brandpositioning while providing interactive components to fully engage our adultconsumers in the brand experience.

We are alsomaking changes to our event sponsorships. As we said in the past, U.S.Smokeless Tobacco Company's corporate and brand name event sponsorship are animportant part of our ongoing effort to communicate with adult consumers. Oursponsorships reinforce company and brand positioning and give us uniqueplatforms from which to interact with adult consumers through closeassociations with pastimes they enjoy.

Consistentwith the provisions of the Smokeless Tobacco Master Settlement Agreement, orSTMSA, we are permitted to have one brand name sponsorship in a given 12 monthperiod. For a number of years that sponsorship has resided with the NHRA, theNational Hot Rod Association, through our sponsorship of the NHRA and the SkoalRacing Funny Car Team owned and managed by drag racing Hall of Famer DonPrudhomme.

With twopowerful premium brands and only one branded sponsorship available to us, wehave decided to move the brand name sponsorship in 2008 to Copenhagen, which will become a branded sponsor ofProfessional Bull Riding, or PBR. Bull riding has become one of America's hottest and fastest growing sports. And thegrit, courage, and determination of the cowboys who ride these animals are aperfect fit for the Copenhagen brand and its long association with the cowboylifestyle and Western imagery.

We lookforward to seeing our Copenhagen Bull Riding Team compete in the 2008 PBRseason, and we will continue our strong participation in the NHRA through aU.S. Smokeless Tobacco Company sponsorship of the Prudhomme team and the NHRA.

The powerfulnew communication platform for Copenhagen and Skoal will require significant investment inthe fourth quarter to ensure that all of the collateral materials we use at ourone-on-one events are aligned with the new brand messaging and deliverconsistent integrated communication to our adult consumers at all points ofcontact.

Thoseinvestments include the onetime costs of changing our sponsorship, includingrefitting our mobile marketing units, changing signage, changing uniforms,changing race cars, and the production costs associated with new websites andadvertising.

In summary, weare pleased with the sustained growth in our premium brand, the acceleration ofour price value brand, and the significant progress we are making instabilizing our category share. For the remainder of the year our plans arestrong, both in brand building and effective loyalty programs, and we lookforward to delivering record can sales for U.S. Smokeless Tobacco Company onboth a reported and an underlying basis.

With that, Iwill turn the call over to our CFO, Ray Silcock.


Thank you,Dan, and good morning once again to everyone on the call. This is my firstearnings call as Chief Financial Officer of UST Inc., and I am very happy to bepart of the team. I'm especially happy today, though, to be in a position toreport outstanding financial results across all our business segments for thepast quarter.

As Murray pointed out earlier, we continue to use more ofthe tools from our toolbox to maintain and improve our financial results inorder to deliver on our goal of 10% average annual shareholder return.

As an example,this quarter we used our strong financial position both to buy an 85% stake inStag's Leap Wine Cellars and to make incremental share repurchases. I willdiscuss both of these items in more detail later in this presentation.

But first, ourthird quarter financials. In the quarter ended September 30, 2007 we reported net sales of $479.6 million, 4.6%ahead of the same period last year. Our cost of products sold for the quarteramounted to $126.5 million, 9.2% more than in last year's third quarter andgross margin of 73.6% was 110 basis points lower than for the same period lastyear primarily, as a result of the shift in the mix between Wine and SmokelessTobacco, a consequence of the rapid growth in our Wine business. Margins onwine are significantly lower than those on smokeless tobacco.

To a lesserextent, the reduction in gross margin also reflects an increase in price-basedsupport for our smokeless tobacco products as we make them more competitive. Itis worth noting, too, that we have not taken a price increase in our SmokelessTobacco segment for two years now.

When we turnto adjusted operating income for the quarter, however, the third quarter of2007 was up 7.9% as compared to the third quarter last year. Total adjustedoperating income was $226.1 million and our adjusted operating margin was 47.1%for the third quarter this year, as compared to 45.7% for the same quarter lastyear.

This 140 basispoint improvement in operating margin was driven not only by the strong volumegrowth we achieved in all of our businesses in the third quarter, but also bythe ongoing impact of Project Momentum in reducing selling and administrativecosts for both USSTC and UST corporate.

In fact,Project Momentum continues to provide cost savings ahead of our expectations.Its implementation has not only helped drive our business through increasedspending on brand building marketing programs, but has also empowered a focuson efficiency and productivity throughout the entire company which will, webelieve, help us consistently deliver our shareholder return objectives in thefuture.

Adjusted netearnings for the third quarter amounted to $138.5 million, up 10.6% from lastyear's third quarter, while adjusted diluted earnings per share of $0.87 wereup 13% from the same period last year.

This year'sthird quarter adjusted net earnings exclude a $0.03 impact from a combinationof restructuring charges related to Project Momentum, the effect of imputedrent associated with the sale of our prior headquarter building in Greenwich,and legal charges recorded this quarter arising from a previously resolvedantitrust action.

While lastyear our adjusted diluted EPS was $0.77 and excluded a net $0.04 adjustmentcomprising $0.06 of Project Momentum restructuring costs and $0.02 of incomefrom discontinued operations. This $0.10 per share improvement in adjusted EPSversus prior year came primarily from the impact of net sales growth, but alsofrom lower sales and administrative expenses.

A lowereffective tax rate, reduced interest expense, and the impact of sharerepurchases over the past 12 months also contributed to the improvement versuslast year's third quarter.

Moving on tothe individual business segments, Dan has already explained Smokeless Tobacco'sstrong third quarter driven by solid volume and net sales increases and bytight cost controls. With respect to operating income, the Smokeless Tobaccosegment's adjusted operating profit increased 7.5% to $216.6 million for thepast quarter.

Higher netsales and lower administrative expenses primarily due to Project Momentum drovethis increase. The continued focus on cost management, which resulted in a 10%decline in administrative expenses in Q3, has allowed the company to reallocateresources in order to grow can volume while simultaneously increasing operatingprofit margins. Smokeless Tobacco adjusted operating profit margin is up 300basis points versus year-ago to 56.4% for the third quarter.

The Winesegment is also thriving, with net sales up 18.3% in the quarter on a 12.6% increasein case volume. Excluding our recent acquisition of Stag's Leap Wine Cellars,net sales growth in the Wine segment was 14.5%, mainly due to strongperformance by our core brands.

Wine segmentoperating profit increased 34.1% to $12.7 million for the third quarter. Theimpact of the Wine Segment's strong top-line growth was somewhat offset byhigher promotional spending behind the Antinori brands, and also by an increasein headcount as a consequence of expanded distribution.

Despite theseoffsets, the winery’s 15.4% operating margin in the third quarter was 180 basispoints higher than as compared to the same period last year. We did not presentadjusted winery results for the third quarter, as the difference between GAAPand adjusted results is quite small in their case.

The finalremaining significant component impacting net earnings in the third quarterwere income taxes. Third-quarter results reflect an effective tax rate of36.1%, versus 37.3% in Q3 2006. This lower rate is primarily due to thescheduled 2007 increase in the federal tax deduction for qualified domesticproduction activity.

Moving on toour share repurchase program, the company already indicated earlier this yearthat it would increase share repurchases by an incremental $100 million in thesecond-half of the year, bringing total share repurchases for 2007 to a planned$300 million. $20 million of these incremental share repurchases had alreadybeen accelerated into the second quarter. The remaining $80 million worth wererepurchased this quarter, bringing total third-quarter share repurchases to$130 million, 2.6 million shares.

Total sharerepurchases for the nine months ended September 30, 2007, amounted to $250 million. The share repurchaseprogram is expected to continue to be accretive to EPS growth not only becauseunexercised stock options now represent less than 2.5% of common sharesoutstanding, but also because the company now primarily provides long-termequity compensation in the form of less dilutive restrictive share grants.

Turning to thebalance sheet, net debt increased sharply in the quarter, rising to $704.3million. Cash on hand including short-term investments at the end of the thirdquarter amounted to $135.7 million, a decline of $208.9 million from the end ofthe second quarter. This decline was due to the impact of the Stag's Leap WineCellars acquisition and also to increased levels of share repurchases.

The company anticipatesthat cash balances at year-end will be lower and net debt correspondinglyhigher, as a result of scheduled payments to be made in Q4 in connection withantitrust settlements resolved in the first quarter of this year. The company planson continuing to utilize its strong financial position both to strengthen itsbusinesses and to return cash to shareholders.

Lookingforward to the balance of the year, we have raised our 2007 adjusted dilutedEPS target and range. Full-year adjusted diluted EPS is now targeted at $3.42 ashare, with a range of $3.40 to $3.44. The increase in guidance for the year isa reflection of growing Smokeless Tobacco premium volume, stronger thananticipated Wine results, and the acceleration of Project Momentum costsavings, somewhat offset by our planned fourth-quarter Smokeless Tobaccobrand-building projects. With that, I would like to turn the call back to ourChief Executive Officer, Murray Kessler.

Murray Kessler

Thanks, Ray.Once again, it was a strong quarter in which we continued to build momentum oneach of our businesses and deliver on our commitments. And while I am pleasedwith our results, I still believe we can do better in a smokeless tobacco categorythat is growing faster than we are.

We will bediscussing how we further build momentum in 2008 at our upcoming investorconference on December 19 in New York City. Invitations will be going out shortly. If youwould like to attend and did not receive an invitation, please contact MarkRozelle, our Vice President of Investor Relations.

On a sidenote, over the next several days you may notice the company will be filingForms 4 inconnection with shares that will be disposed of in order to cover taxwithholding obligations for certain executive officers. These dispositions willbe made pursuant to our 2004 restricted share awards, which are currentlyvesting. And to be clear, these are not discretionary dispositions but rather apre-established mechanism designed to handle the tax withholding.

Now, Dan, Ray,and I would be happy to answer any questions on the quarter.



(OperatorInstructions) And your first question comes from the line of Judy Hong ofGoldman Sachs.

Judy Hong -Goldman Sachs

First, I justwanted to ask you about the category growth. I mean I think it’s been severalquarters now where the category has been growing kind of in the high-singledigit rate. Obviously, you feel more comfortable this year with category up atleast 6% or 7%.

But lookingout over the next few years, do you think we're at a point where you feel thatcategory growth can be sustained for in that 6% or 7% range? Are there anyreasons why the category growth would start to slow?


Yes, we havebeen very pleased with category growth. You said it's been several quarters inthe mid-single digit range. In fact, it has been several years in the mid- tohigh-single digit range. So we are very pleased with the category growth.

I believe thecategory can continue to grow at a significant rate for a long, long time tocome, because the fuel that drives that to a large extent is smokers convertingto smokeless tobacco. There's about 45 million smokers in the U.S. and there are still 6 million adult consumers ofmoist smokeless tobacco. So, we believe that is fuel that can drive thecategory for a long, long time to come. Whether that is 5% or 7% remains to beseen. I am not sure I’d go for 7% for the long term. But I think there is veryhealthy category growth for a long time to come.

Murray Kessler

Yes, and asalways, Judy, at the December investor conference we will give you ourprojection for the category for 2008 and how we get there. But just to supportwhat Dan said, it’s an incidence-based strategy and you are still dealing with6 million smokeless tobacco consumers versus 45 million non-smokers.

The bulk ofwhat we do every day is, and the bulk of our spending, is still focused onconverting adult smokers to the smokeless tobacco category and I don't seeanything changing in terms of the dynamics that make that work. There isincreasing smoking restrictions. All the issues that make our productsappealing on their convenience and discreetness still present themselves goingforward.

Judy Hong -Goldman Sachs

Okay. And thensecondly, just in terms of your decision to increase brand support behind Skoaland Cope in the fourth quarter, is that tied in any way to looking atcompetitive landscape and with new products coming into the marketplace?Whether it is Red Man or a Marlboro moist smokeless, is that decision beingdriven partly by those new products in any way?


No, and I wantto be clear, too. What we were trying to explain is, with the extra week youmight have done some math and said you ought to come out to a little bit of ahigher number in the fourth quarter.

These are notdramatic changes. We had a lot of these plans in place and that level ofspending in the quarter for I am not sure we had it all in the beginning of theyear, but most of it in the beginning of the year. So there is not a radicalchange. I'm just trying to help, and we are trying to help provide you someguidance when you are building to our estimate.

The spendingthat is in there, I didt say at the end of the second quarter, at the end ofthe first quarter that we retain some competitive flexibility. The reality is thecompetitive entries we have seen are very small in scale. So, the amount ofspending that is going towards that area is very small, and it did give us someopportunity to do some what we think are spectacular long-term things for thebrands. But they are kind of the opposite of spending on a tactical basis inthe market there.

Going to a Copenhagen branded sponsorship and new advertising and allthat, those are not short-term moves. Those are brand building moves, which wethink is important and is what this company is based on, strong and resilientand highly loyal consumers and great brands and we are using the opportunity toreinforce that.

Judy Hong -Goldman Sachs

Okay. Justfollowing on the fourth quarter, the extra shipping day impact. I mean, yousaid the volume impact would be less than the $12 million. So, should we say ithalf that? Or can you give us a little bit better help on quantifying thatnumber?

And then froman EPS perspective, if these are un-promoted volume, though, I guess the profitper unit on this extra volume would be higher than your normal volume? So, theEPS impact could be a little bit higher than the volume impact?

Murray Kessler

I think, theguidance we gave you on EPS is what we believe in. So, there is only onequarter left so you can solve for that number. But on the relative basis, it isa little bit hard to tell. December 31st it depends, does it snow?Doesn't it snow?

Does the SCHIPbill revive itself? And if the SCHIP bill revives itself, there is a floorstock component to it, does that temper it a little bit? It is an un-promotedweek. We will give you clarity. We are trying to report our numbers on anunderlying basis.

And I thinkwhat Dan said to you was you're basically up 2% on nine months, and we expectto be up 2% on premium volume for the year; so fourth quarter is about thesame. That is the number that should drive you. We will tell you how much it iswhen we see it actually play out.

Judy Hong -Goldman Sachs

Okay. So up 2%without the extra volume, though, right?

Murray Kessler

Correct. Yes, wewill report that number at the end of the fourth quarter. We have tried not tobe very specific with it. Because it is a strange time of the year and then itwill all just be all incremental. We will point that out and we will let youknow what the underlying numbers are, so you are clean on the real trends.


Our nextquestion comes from the line of Bonnie Herzog of Citigroup.

BonnieHerzog - Citigroup

I just have afew questions. I was curious, if you could just talk about the overall trendsthat you are seeing. For instance, certainly your volume continues to grow, butyour market share has been declining.

So, first, youlost overall market share. And then you also lost, if I am not mistaken, marketshare in both your premium segment as well as your price value segment orcategory. Can you talk to that and how comfortable you are with that?

Murray Kessler

Well, I thinkthe share is going through a tremendous stabilization. Frankly, ahead of whatwe might have even hoped for, based on the acceleration of volume and Danraising his volume targets for the year a few times. You are right, compared toyear-ago, we continue to lose market share, but at a much lower rate than wehad been a couple years ago, and it has been slowing sequentially every time wereport.

But we nowbasically have lost maybe a tenth or a couple tenths over the last three26-week reporting periods. Or said another way, our market shares today are thesame as they were last November. So, you sequentially have seen a dramaticchange and it makes sense, right?

If thecategory is continuing to grow, something had to change in order for our volumeto accelerate. And, we just reported the strongest volume in over 10 years andit is more like a dozen years for the brands. And even within share, that isthe share in the total because you have a mix issue, but we are gaining sharein every segment.

Our sub-pricevalue brand, Husky, gained share within the sub-price value segment. Red Sealgained share within the price value segment and premium gained share within thepremium segment. So, I am pleased with the way share is heading.

Is it goodenough? No, it is not good enough. I would like to see us growing as fast asthe category. That is why I continue to state that our goal is a 10% totalshareholder return and that we are continuing to invest to accelerateprofitable volume, and because the goal is to grow in line with the category.But that is not going to happen in an instant, and so we are making greatprogress on it.

Bonnie Herzog- Citigroup

Okay. And thensecondly, can you talk about your current inventory levels or what they were atthe end of the quarter, and how that compares to the year-ago period? I'm justtried to get a sense of was there some loading or de-loading? Where were you atat the end of the third quarter?


Are youtalking about trade inventories, Bonnie?

BonnieHerzog - Citigroup

Yes, I'msorry. Yes, correct.


I don't havethose numbers handy. But I don't think you have seen any change in those. Iwouldn't tell you that our shipment numbers are at all reflective of any shiftsin trade inventories other than the fact that we started shipping on the newCope sub-line on September 17.

So there was apipeline fill even towards the end of the quarter, but a lot of that would havemoved through retail in the first couple of weeks.

Murray Kessler

And it iscomparable to the Bandit launch.


Right, you hada Bandit’s launch in the year-ago period. So I really don't think inventorywould account for any swings. The only thing that I mention in my comments isthat the timing of shipments around the 4th of July had a little bit of animpact on this quarter and last quarter. That is why I encourage you to look atthe year-to-date trends.

Murray Kessler

Yes. Justadding to that, we didn't adjust at the end of the second quarter; I thinkpremium volume was up one four, we said, 4th of July timing, and one five, 4thof July timing was a little later this year. But we didn't try to come up withan estimate that said second quarter would have been higher but for 4th ofJuly.

The onlyinventory shift was at the beginning of the quarter, not the end of thequarter. There was no special push. There is no reason to believe inventoriesare different one way or another. And if you look at the six months, it washesout 4th of July everything else was equal. And premium volume has grown about2%.

BonnieHerzog - Citigroup

Okay. Thathelps. And then, Murray, as you mentioned and it was in your pressrelease, you talked about the increase in the share repurchase program,specifically this third quarter. What are your goals for your program in thefuture?

And I'd alsobe curious to hear from you what programs, if any, may have lost support, givenmore money being allocated to your share repurchases. Or was it, as I lookthrough your financials for the quarter, was it because of the sale of yourbuilding in Greenwich, for instance?

Murray Kessler

Well, it wasbecause of the share. We basically said we sold the building, we got almost a$100 million of cash and that’s what supported the incremental sharerepurchase. So, that’s an accurate statement. We also sit on lots of cash andbeyond that we have tons of balance sheet capability and we are notparticularly leveraged.

So, we areinvesting in our brands. And even when you see our S&A numbers going down,it is in nonworking dollars. It is not in things that drive the business. Weare investing in the things that move cans and we’re cutting back in thenon-product or becoming more productive in areas. And that’s what is generatingthe dollars.

So, I willlet, I will turn it to Ray, to comment on sort of how we think about sharerepurchases and we obviously won't talk about that now. We talk about thosethings at our December conference. But, Ray?


No, I think weare in an enviable position with respect to our balance sheet. As you said, as Murray said, we’re certainly not skimping on advertisingor other kinds of marketing support in order to make the share repurchaseprogram.

We saw a smallincrease in our overall indebtedness in the course of the quarter; but that wasprincipally from buying Stag's Leap Wine Cellars. And I think, as we go forwardwe will be in a position to evaluate better, what our position should be in thefuture.

Murray Kessler

Yes. It is sortof what we’ve been saying all along, right? We have this toolbox. What we havetried to do is evolve our business model over the past two years to say therewas sort of this one way of getting to the numbers.

And now with atoolbox that includes share repurchases, some acquisitions, faster growth fromthe winery, more accelerated volume growth, cost reduction, etc., we areconstantly evaluating all of those tools--pricing flexibility that stillremains, all of those things--to deliver our results and still try toaccelerate profitable volume growth.

So, it is anongoing process. That is what you pay us for, to be looking at each of thoseand which are the right levers to pull at the time in order to deliver thereturns. And we will do that.

BonnieHerzog - Citigroup

Finalquestion. Speaking of your toolbox, what are your thoughts on the “snus”category? Do you believe it can be a viable category in the future?

Murray Kessler

Well, I willredefine it as that spit-free small pouch category, which is being called “snus”by some brands, called Skoal Dry by us. We called it Revel before.

That wholesegment, we have invested a lot of money in it and have been working on it forfive or six years. So, I ultimately believe in it. I think it presents anopportunity. We struggled getting it done ourselves. So, I kind of welcome thecompetition. It is still none of them are setting the world on fire. Dan, it'skind of like a line extension of…?


Yes. I thinkif you look at it within those test markets, Bonnie, you see fair retailmovement. They perform about like one of our sort of respectable lineextensions. But that is not what you want or need out of something that is asignificant new platform.

So, I thinkall of us are trying to figure out the best way to go to market and optimizethe products and I think we all recognize that since that product is notsourcing volume from moist smokeless tobacco consumers, it is really designedfor smokers. It takes some time and education to get smokers to adopt afundamentally different behavior and that kind of product.

Murray Kessler

And we don'treport on how competitors are doing in their test markets. The only thing Iwill tell you is in every single test market, where snus and Skoal Dry andRevel and all those products are, Copenhagen and Skoal are growing as fast or faster than inthe balance of the U.S.

BonnieHerzog - Citigroup

No, I thinkyou hit upon a really very important point and it is education. I think theconsumer especially in the U.S. doesn't really understand this relatively newcategory. Although you have been there. But how to use it and to your pointearlier, Murray, by having others enter it, that mightpotentially help you?

Murray Kessler

Yes, it is aneducation, that is the right word, too. It is education. The dippers that areout there today, it has no appeal to. So, it’s getting smokers and helping themunderstand what it is and how you use it. It is work, but long-term, I think itpresents an opportunity for the whole category.

BonnieHerzog - Citigroup

That’s part ofyour toolbox in the future. Thank you so much.


Your nextquestion comes from the line of Nik Modi of UBS.

Nik Modi -UBS

Just a couplequick questions, on the cost side, I know you rose your targets last quarter.But are there other projects that you're evaluating right now in your pipeline?And then the second question is, on the discount versus premium side, it seemslike obviously we’ve seen 40% market share grab over the past 15 years or so.

When you seethese new lower-end products coming into the market or lower-priced brandscoming to the market, are they just taking shelf space from other discountbrands? Or are retailers still willing to take away premium space given thetrade off on the price per can?


I will takethe last question first and then I will let Murray take the first one. Regarding all the activity onthe lower-end of the market, one thing I will say is that this MST category fora long time has had a very long tail of a lot of very small SKUs.

In thatrespect a lot of these things aren't anything any different and there is anumber of them, I think, that have gotten a disproportionate amount ofattention, but the reality is that that share grab that you talked about camefrom big brands from big companies and that’s where the growth in the category hascome from.

So yes, thesesmaller brands coming in are really fighting within the PV segment. I thinkwhat is important, you look at the trends we showed, that price value growthoverall despite the introduction of a number of brands at very low price points,the overall rate of segment growth is declining on both an absolute and apercentage basis.

And in thatcategory, our premium growth is accelerating. The category growth remainsrobust. We are increasing our rate of growth within the price value segment.So, long story short, it is not something that really concerns me or I thinkrepresents anything new.

Murray Kessler

On the ProjectMomentum side, the answer is yes.

Nik Modi -UBS

Okay. Fairenough. Last quick question. The original test market where you were looking atclosing gaps in certain concern territories, I know it's been about a year andsome change now. Can you provide some perspective on how that market inparticular is progressing? Just kind of give us a view on how sustainable thestrategy is.

Murray Kessler

Nik, I thinkyou are going way back when we first started the premium loyalty plan. And wesaid we are going into a handful of markets where we sort of tested thatprogram, probably about six months before we really rolled it out nationally andfor the most parts, those areas that we did that are doing quite well. We don'tshare a lot of these details, but within our national share numbers, there areactually individual markets where we are growing share not only sequentiallybut also year-over-year.

The thirdquarter is a bit of a milestone for us, because it’s the first quarter where weposted premium growth of top of growth from the prior year period. I expectyou're going to see that again in the fourth quarter. So short answer, I thinkwe do have a sustainable growth strategy here.


Your nextquestion comes from line of Filippe Goossens of Credit Suisse.

FilippeGoossens - Credit Suisse

A fewquestions here on my side as well. Murray, obviously, I mean trying to predict what isgoing to happen in Washington. I mean, I'm trying to give up on that.

Murray Kessler

Me too. Goahead.

FilippeGoossens - Credit Suisse

But anyhow, ifone assumes that FDA legislation is not going to pass this year based on thenumber of legislative dates left out there, can you just kind of give us abetter feel in terms of when you may actually roll out a potential gamechanger?

You havementioned in the past that, I forgot the actual count, but a significant amountof patents that you have applied for or have received, and that you are kind ofwaiting to get a better feel for the timing of the FDA before you might rollout one of these game-changers. Any additional kind of color there, Murray?

Murray Kessler

I reallydon't, except to say that at the last year's December investor conference wesaid by the end of this year or the beginning of next year we thought we wouldhave a more innovative product that would be ready for test market. We said wewould hope to bring it to test market.

We are stillon track for that. We’ve made tremendous advancements. We still proceed downthe path of getting ready for launch. We have tested with consumers, gottenterrific scores, and everything is sort of marching along.

But we willcontinue to assess what’s going on with the external environment to determinewhen is the right point to launch that product, and we will see. I wish I couldgive you a better answer right now, but I don't have one.

FilippeGoossens - Credit Suisse

Okay. Thenmoving on to one of the new competitive rollouts. If I understand it correctlyand unfortunately, I don't have the same historic knowledge as all of you do,but maybe Dan can help us out here. The Red Man product of Swedish Match, thatis a re-launch, Dan? How does it differ from what they’ve tried in the past,today? And which product will it compete the most with on your side?


Yes, Filippe, RedMan equity is based in traditional loose-leaf chewing tobacco, which is a muchsmaller category than moist smokeless tobacco. They launched that product someyears ago and it was not successful in market. It was before my time. And theyare re-launching it today.

It is pricedlike a sub-price value brand. I guess, a couple things, I would tell you aboutthat. Surprisingly, the number of MST consumers who also use chewing tobacco isrelatively low, significantly lower than it is for cross-usage with cigarettes.So I am not sure they are going to find a large potential audience there.

It is a verystrong brand within its segment. But, it remains to be seen how that willtranslate into moist smokeless tobacco. It didn’t do well before. But with thatbeing said, we will wait and see. But, it is another brand at a price pointthat exists in the category and I expect it is going to compete at that levelwithin the category. I don't see that as a significant change in themarketplace, but we will watch it carefully.

Murray Kessler

Yes, I mean,specifically to answer your question. Last time, it was launched at a premiumprice up against Copenhagen and Skoal. Last time they launched it as apremium product; this time they have launched it as a price value product.

FilippeGoossens - Credit Suisse

Okay. And thenperhaps, a couple of questions for Ray, if I may. Can you give us an update interms of program-to-date savings under Project Momentum, please?


Yes, hi,Filippe. Yes, to date, I think on a year-to-date basis we are a little over $56million of savings year-to-date.

Murray Kessler

Remember atthe investor conference, Filippe, we said $45 million was built into the plan, andwe thought there was upside of another $20 million. Looks like, we will getboth what is built into the budget. We were $0.12 ahead of our originalguidance, so in what we are projecting. But we expect to get all of that.

FilippeGoossens - Credit Suisse

Okay, perfect.Then the second question, Ray, if I understood correctly, what you were sayingis that, as it relates to any potential review in terms of the financialpolicies and the capital structure and stuff like that, might we hear somethingalready in December? Or not necessarily?


I think notnecessarily, Filippe. I think it is one of those tools in the toolbox that Murray talks about that is clearly there. I think that,as we go forward towards the end of the year, we are certainly going toevaluate it. It is possible that in December, we will have reached some sort ofconclusion and decision. But I am not going to commit to that.

But as I say,clearly we have an under-leveraged balance sheet. I don't think anyone woulddispute that. It is just a question of deciding where we should focus thattool, if you like.

FilippeGoossens - Credit Suisse

Okay. Then interms of Wine, Ray, you gave us the year-over-year sales growth ex-Stag's Leap.If, I understood again correctly with regard to operating profit, it was only ade minimis contribution in the most recent quarter for Stag's Leap?


That wouldprobably be accurate. I mean the fact of the matter is, although we said Stag'sLeap is an accretive acquisition and we expect it to be very slightly accretivethis year. The contribution margin from the sales, obviously, that we talkedabout is partially to almost completely offset by the reduction in interestthat we were earning on the cash we used to pay for it.

Murray Kessler

It will showitself in the little more operating profit growth. Because, we don't charge thecost of capital down to the segment. It is within our numbers. It is modestlyaccretive, exactly as we have positioned it.

FilippeGoossens - Credit Suisse

Okay. Thenfinally, Murray or Dan perhaps, the increase in your value segment shipmentsare up 11.3% from the 9.6% in the prior quarter. Can you just give us a littlebit more color in terms of how you go about in terms of improving or gettingcloser to category growth there? Is it driven by price positioning? Is itdriven by more distribution? A little bit more color would be very helpfulhere.


The one thingI will say about it, first, I am pleased that we're doing well on both of thebrands. Red Seal had been a bit of a disappointment last year. I would say inthe case of Red Seal, it is a matter of paying very close attention to thebrand and managing it at a granular level. It has not been a huge investment,it is just executing thoughtfully on a market-by-market basis and calibratingand getting it right. It hasn't been a huge amount of money, but it has worked.

On the Huskyside, it is more about on that brand it is not about deep price promotion. Itis about building out to full distribution. The brand went national a coupleyears ago, but there is still a lot of distribution voids out there.and wethink it is a strong viable national brand. So we are filling out voids wherewe don't have distribution and we are building out the line in stores where wedo have distribution. So the strategy on Husky is really about building itsfull national presence.

Murray Kessler

Husky is fullyintegrated, too. It was a new and improved product, so it was new packaging,fabulous graphics; in building that distribution, we went to our customers witha fully-integrated marketing approach to it.

The numbersyou quoted were the RAD numbers. I think they are even stronger on a shipmentnumber. I think we went from around 8% growth in the second quarter to about16% growth in the third quarter.

Danforeshadowed that on the last call, saying that we would be more aggressive inthose areas as part of that overall competing effectively in all segmentstrategy. So we are quite pleased with the way it is progressing.


Your nextquestion comes from the line of Ann Gurkin of Davenport.

Ann Gurkin- Davenport

Good morning.I wanted to spend some time talking about your presence at the retail level.Are the retailers giving any more space to the smokeless segment, kind of anyupdate there?


We have anongoing program with retailers. We engage on a strategic level with all of ourkey accounts. I wouldn't say it is anything new, but we have a sustained highlevel of investment. Putting showcase shelving systems into retail that make abetter presentation of our product enable us to get more facings at retail andbetter presentation of the product to consumers.

I believe thatone of the drivers of category growth over these last years, on a consumer sideit’s about incidence and more smokers converting to smokeless tobacco. But thatgoes hand-in-hand with significantly enhancing the presentation of the moistsmokeless tobacco category at retail, through those investments we have beenmaking in high-quality showcase shelving systems. But also workingstrategically with accounts and telling the category growth story and talkingabout category profitability. This is one of the most profitable and productivefaces within the C-store, period.

If you talkabout retail velocity and profitability per cubic foot in the store, moistsmokeless tobacco is a very tough story to beat. For that reason, retailershave been working with us to improve presentation, visibility, and improveshelf space.

Murray Kessler

Yeah, I thinkwe placed an additional 6,000 showcase shelving units this year, which isprobably like a 7% or 8% increase in the total number of retail stores outthere that have that. They significantly expand the footprint of the smokelesstobacco category.

We havereported the number. We will do it again in December, I am sure. But I justdon't have the number at my fingertips right now. But I would venture to say USSTCcategory facings are probably up in the neighborhood similar to the kind ofnumbers you are seeing in category growth.

Ann Gurkin- Davenport

Great. Then,you now look for the domestic smokeless category to be up at least 6%, I thinkyou stated, why not 7%? And what’s keeping you from moving that range to like6% to 7% or closer or to 7% for the year? Are you going to promote less in thefourth quarter or increase pricing, can you help me understand that?


It is not thatwe are really expecting the growth to slowdown or there is anythingfundamentally differently happening. We are up less than 7% I think or in that neighborhoodyear-to-date. It was 6.7% for the latest 26-week period. So I don't expect itto accelerate for the balance of the year. I wouldn't be surprised if it sloweddown a little bit. But having said all that, it’s comfortably above 6%year-to-date. So, we think yes, on a full-year it is going to be at least 6%,we will see.

Murray Kessler

Yes, when youmodel out incidence you come out to a 5% to 6% category growth gain. The thingsthat are being done to drive incidence.

Last year wegot above that. But we believed after a couple years ago with spiking gasolineprices, etcetera, that you had some drop-off and some just general cutback in Copenhagen and Skoal consumers, who were highly loyal butdidn't just quite buy as much.

You saw someof that in the category growth last year. We thought that would go away. Wedon't get those sort of diagnostics till the end of the year. But having saidthat, the category has grown above the 5% to 6%. So we are anxious to see thosediagnostics as well, to see if that incidence accelerates a little bit more? Orwhat is driving that above what we would have typically modeled?

Ann Gurkin- Davenport

Okay, and thenif you look across your business can you comment on the number of states or thepercentage of the business where you still need to work on managing the gap,the price gap? Or maybe where the premium growth is not meeting expectations?Can you give me kind of a number?


36 states thatrepresent about roughly 77% of our volume are growing, and we have been prettyconsistently at that level for the last several quarters. Frankly, if you lookat any business, you are always going to have some portion of states that areissues.

I think thisis a very healthy profile. And we look at those numbers every single month. Andpart of what has made us successful, I think, is managing that at a verydetailed level. So we are always focused. There is always going to be someareas where we have got issues. But frankly, there's also states that aregrowing 5, 6, 7%. So it is a mix, and we manage that very proactively.

Murray Kessler

Yes, it is notjust price gap. There could have been a state tax increase that affects astate. There's a number of things that will drive how we continue to makemodifications going forward. But you know, fundamentals are good. We aredelighted to be sitting here where we are seeing now, quarter after quarter, wherethe fundamentals are strong.


Your nextquestion comes from a line of Christine Farkas of Merrill Lynch.

ChristineFarkas - Merrill Lynch

Thank you verymuch and thanks for taking the question. Just quickly, your margins expanded300 basis points in tobacco. Murray or Dan, could you maybe quantify how muchof that came from Project Momentum? You must know how much you have saved inthat segment, versus the volume and mix improvement.

Murray Kessler

Well, thegross margin in tobacco was down about 30 basis, 40 basis points, so ProjectMomentum had a gigantic impact on the quarter.

ChristineFarkas - Merrill Lynch

Okay, great.Then with respect to the balance sheet, Ray, I know you may not be givingtargets this early, but the shareholder equity turned negative this quarter.Can you comment a little bit about targets there or what we should see goingforward?


It's aninteresting question. You are right that we went slightly negative on ourshareholder equity. Because that’s really a legacy to some extent of theantitrust payments made over the last few years, and we don't consider that tobe a major issue for the company.

ChristineFarkas - Merrill Lynch

Okay, great.Then just finally, Murray, with respect to your overall loyalty programspending, the run rate, how is that looking now? Has that basically stabilized?Are you still adding to that now? How would you put the spend on Copenhagen and Skoal in the fourth quarter in that bucket,or would that be separate?

Murray Kessler

Yes, I thinkwhat you saw us do last year, as we were learning about it, was we went outwith an initial estimate and then we kept some funds flexible. We did that onpurpose, so we could make adjustments. We ended up spending a little bit more.We got it kind of figured out by the mid-half of last year. Then when you carrythrough that to this year, that was the increase in spending that we hadannounced in December that was associated with the trade plan for this year.

This year hasbeen completely different. We have just been executing to plan. We haven'tthrown any more dollars that way. It has just executed exactly as we thought. Danand his team do a remarkable job. We have this spectacular trade marketing teamthat make these adjustments and work with the field to do that.

So it may movefrom state to state and tweak programs, etcetera. But it really hasn't taken usthrowing a lot of fuel to that fire. That’s why I think you see us continuallybeating estimates. Because otherwise, what I basically said is we keep spendingand we would hold to the 10%, but we keep raising guidance because it istranslating into higher volume.


Our nextquestion comes from the line of Karen Lamark of Federated Investors.

KarenLamark - Federated Investors

I understandthere is some pipeline fill for new and re-launched products. But, I wanted toask you a couple questions about receivables. It looks like they're up nearly40% year-over-year, just looking at your historical filings. Can you give us alittle bit more color?

How much ofthe increase is the Wine acquisitions? Then maybe adjusted for that, separate theincrease into Wine and Smokeless and maybe if you could, just tell us a littlebit more about how much of the increase might be sell-in versus sell-through?Thanks.


Well, the increasein receivables is principally driven by the growth of our Wine business. Thereis a different profile in a number of days outstanding between Wine andSmokeless Tobacco. So it is the growth of our Wine business has driven ourreceivables up. Could you restate the second part of the question? I am notsure I got that.

KarenLamark - Federated Investors

Well, I wasbasically trying to understand how much of the increase in inventory,particularly on the Smokeless side, might be driven by inventory, sales. Yoursales growth was driven more by pipeline fill as supposed to or deals with yourretailers, say.

Murray Kessler

Just to beclear, we don't believe we had any inventory increase in this quarter relative tolast quarter. There was a pipeline associated with the new Cope launch. Butit's about equal to the pipeline that was in the prior year associated with theBandit’s re-launch.

On SmokelessTobacco, our terms are zero days. So we don't extend credit. We direct debit onthe day we ship. I mean, it is all the Wine business. And it is not the Winebusiness doing some kind of special terms; it is adding Stag's Leap and it isthem growing like gangbusters.

KarenLamark - Federated Investors

Are you givingany kind of guidance, what we should expect year-over-year then, by the end ofthe year? Because, it is quite a big jump. And I understand the Wine growth wasquite high. But I'm just curious what you expect at the end of the year?


We are notgiving specific guidance at that level of detail on the balance sheet. But theWine business does continue to grow and you could expect to see a modestincrease over the course of the fourth quarter.

Murray Kessler

Yes, now youhave a full quarter of Stag's Leap. It will be a big fourth quarter for Wine.


Your nextquestion comes from the line of David Adelman of Morgan Stanley.

DavidAdelman - Morgan Stanley

I wanted toask you a question about the gap between your RAD data on discount volumeversus the shipment numbers that were released today by each of the majormanufacturers. And I know that there is some timing distortion between the two.

But the RADdata for price value up was up, I think, 14% or 15%. Your shipments were upover 16%. Reynolds was up 18%. Swedish Match was up 34% for the third quarter.So I am just curious, how do you reconcile those two things? What do you thinkis happening?

Murray Kessler

Well, I think,what is happening is it is accelerating, right? As you're talking about ourspecific brands, we're reporting a 26-week number, and the programs that welaunched to build distribution and all that happened in the middle of that26-week period. So, you're seeing a higher level of shipments from us thanyou're seeing RAD, because it is a six-month RAD period versus a three-monthshipment period.

DavidAdelman - Morgan Stanley

So, do youthink you're going to see some reacceleration in the discount segment's growthgiven those manufacturer shipment trends this quarter?

Murray Kessler

Yes, I'm notgoing to give you exact numbers, but we get more recent periods and we are notseeing anything.


I will tellyou, we see the data, obviously, in more detail than you do. We present thesix-month data, but within a month you will see a spike. There are promotionalspikes that happen. But fundamentally you're talking about, we're reporting ona six-month period ended September 8, and the other companies are reporting ontheir shipment volume for the third quarter. So that accounts for a lot of thedifference.


And your nextquestion comes from the line of Thomas Russo of Gardner Russo.

ThomasRusso - Gardner Russo

You had saidthat Ray was going to bring a whole set of new skills with him to UST. Butlittle did you suggest that he would bring a halt-trading opening on the firstconference call he did for quarterly results. So, I congratulate you on yourselection. Congratulations.

Murray Kessler

Thanks, Tom.

ThomasRusso - Gardner Russo

Yes,congratulations on your numbers. Murray, could you just spend a second talking aboutstate excise taxes and how progress is underway there? And also the federalexcise tax threats that you might see.

Murray Kessler

Well, federalexcise tax, I think everyone is aware that the President vetoed the SCHIP billand that the House sustained the veto. I think as late as last night there wasdebate, and a goal by the Democrats to resubmit a SCHIP bill within the nextcouple of weeks, and they have stated that. And I don't think they came to anagreement; but they are trying to negotiate and redo it. So, it’s very muchactive.

Whether thatis enough to be able to convince the administration that they believe it’saddressed their concerns and that is yetto be seen and there is still negotiation underway, but if the SCHIP bill didnot just die; it is very much active.

On the stateexcise tax equity initiative, we view that as a top lobbying priority and overthe long term, we have had five states in the last 12 months, two statesearlier this year, a couple close calls earlier this year, and we are activeand engaged in a number of states.

There are notthat many states left in legislative session right now on a state level, butthere are a number, and we are actively engaged in discussions in each of thoseareas. Plus hard at work at educating for the beginning of next year when thesessions come back.

ThomasRusso - Gardner Russo

Great, thankyou. Dan, you’d mentioned the constant effort to recruit from smokers and justspend a second, if you could on the conversion process. What’s your learning--nowthat you have been at it for a long time--about the products where the smokersare most likely to convert into your category; and then products that they endup using as they renew as smokeless consumers?

What have youlearned about where you are pulling them in through, what offers, and then howdo they stay in the category, premium versus sub-premium?


In terms ofhow they enter the category, first of all, the majority of people who enter thecategory are smokers. And the majority of those, about two-thirds of new adultconsumers who enter the category enter through the premium brand.

Then if youcut that down a little bit further, the conversion is primarily in the moreapproachable long cut format, where we've had a lot of innovation, particularlyon the Skoal brand and most recently on the Copenhagen brand through new Cope.

And verydisproportionately, while pouches are about 5.6% of category volume, they’ve amuch higher share among new-to-category consumers. So, the portion pack formatas an approachable, discreet, easier-to-use product is working very well atconverting new-to-category consumers.

ThomasRusso - Gardner Russo

And, if theycome in with the pouch because of the ease of sort of access, do they staypouch consumers? And, if they want to stay pouch consumers, but they would beinclined to drop into sub-premium, do you have sort of products for them? Whatis your experience?


Our experiencewould be that I think when people come into pouches they tend to stay there. Tothis point USSTC premium pouches are about 93% of portion pack volume. There isvery small price value activity and I think you can expect, given the growth inthe segment that you may see more there. But we’ll be ready to compete whereverwe feel we need to compete. Right now, I think we have a very compelling valueproposition in our premium portion packs. They are growing strong doubledigits, and I think that will continue.

Murray Kessler

Yes, if youremember back, Tom, it has got to be three years ago now, sort of preemptivelywe went out and we tested Red Seal pouches, and we tested it in sort of highprice value markets and they didn't get much traction.

You’re alreadystarting with a premium consumer and it is a very high appeal to a smoker andin general it is highly differentiated. So, for whatever reason, we have seeneven higher loyalty levels among pouches and less from our own test marketexperience, less willingness for trading down.

But to answerthe question, if we needed to, we already did it. We already have thepackaging. We already have the label. Whether you did it on Husky or Red Seal,it’s easy for us to do. But we would have to see that there is really ajustification.

And remember,price value brands, there's a lot of them. In general, on any individual SKUthey tend to move at a fraction of the volume of a premium brand. When you arestarting with a whole category segment that is only 6% or 7% of the categoryand do a fraction of that, it is questionable whether there is sufficientvelocity to hold that at retail.

ThomasRusso - Gardner Russo

Yes. Thankyou. And then last question for Dan. The shift in your sponsorship for to PBR,how do you square the clear target and sort of likely consumer overlay there tothe ability for your sponsorship dollars to grow the category to new users?

I can imaginethat you overlay quite closely to the PBR audience. How does the PBR audiencethen relate to the rest of the country and the possibility of speaking to othernonusers possibly interested in coming into the category?


Well, I think,we are active in the PBR today. We are successful within those events atbringing adult smokers into our adults-only facilities and sampling them withthe product. So, I think it is a rapidly growing sport; it is beautifullyaligned with the Copenhagen brand.

Butimportantly, it does not mean we’re going away from the other venues. We willcontinue to have a very strong presence in the NHRA as we have for over 20years. We will continue to work with Don the Snake Prudhomme and we will have arace team out there and we will continue to interact with that consumer group.

It is reallyjust a matter of shifting the branded portion of the sponsorship over toanother property. The fact of the matter is we have two powerful brands and abranded sponsorship has resided with Skoal for a long time. And we think it isappropriate to kind of share the wealth a little bit, if you will.

Murray Kessler

It is time fora rotation. And we are reaching in our one-on-one events more smokers this yearthan we did last year. We, in our plans, preliminary plans and again we willshare that in December, we will reach more smokers next year in our plans thanwe do this year in those events.

This is aboutbrand imagery and reinforcing the authenticity of the Copenhagen brand. It’s a perfect match for the brand becausethis is still an image category. When a smoker converts, he's going to want toassociate the image. In our category, the rugged authentic American original isCopenhagen.


You have noquestions at this time. I would now like to turn the call back over to MurrayKessler, CEO, for closing remarks.

Murray Kessler

Once again, weare pleased to report strong financial results. We are pleased to report thatwe're delivering on our commitments. We look forward to seeing everybody at ourinvestor conference, where we share plans for next year. Thank you for yourcontinued interest in UST.

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