Exhibit 99.1

ALTRIA GROUP, INC.

and SUBSIDIARIES

Consolidated Financial Statements as of

December 31, 2010 and 2009, and for Each of the

Three Years in the Period Ended December 31, 2010

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ALTRIA GROUP, INC. and SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS, at December 31,

(in millions of dollars, except share and per share data)

 

 

 

 

See notes to consolidated financial statements.

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

CONSOLIDATED STATEMENTS of EARNINGS

for the years ended December 31,

(in millions of dollars, except per share data)

 

 

 

		2010				2009				2008
Net revenues		$	24,363			$	23,556			$	19,356
Cost of sales			7,704				7,990				8,270
Excise taxes on products			7,471				6,732				3,399
Gross profit			9,188				8,834				7,687
Marketing, administration and research costs			2,735				2,843				2,753
Reduction of Kraft and PMI tax-related receivables			169				88
Asset impairment and exit costs			36				421				449
Gain on sale of corporate headquarters building											(404	)
Amortization of intangibles			20				20				7
Operating income			6,228				5,462				4,882
Interest and other debt expense, net			1,133				1,185				167
Loss on early extinguishment of debt											393
Earnings from equity investment in SABMiller			(628	)			(600	)			(467	)
Earnings from continuing operations before income taxes			5,723				4,877				4,789
Provision for income taxes			1,816				1,669				1,699
Earnings from continuing operations			3,907				3,208				3,090
Earnings from discontinued operations, net of income taxes											1,901
Net earnings			3,907				3,208				4,991
Net earnings attributable to noncontrolling interests			(2	)			(2	)			(61	)
Net earnings attributable to Altria Group, Inc.		$	3,905			$	3,206			$	4,930
Amounts attributable to Altria Group, Inc. stockholders:
Earnings from continuing operations		$	3,905			$	3,206			$	3,090
Earnings from discontinued operations											1,840
Net earnings attributable to Altria Group, Inc.		$	3,905			$	3,206			$	4,930
Per share data:
Basic earnings per share:
Continuing operations		$	1.87			$	1.55			$	1.49
Discontinued operations											0.88
Net earnings attributable to Altria Group, Inc.		$	1.87			$	1.55			$	2.37
Diluted earnings per share:
Continuing operations		$	1.87			$	1.54			$	1.48
Discontinued operations											0.88
Net earnings attributable to Altria Group, Inc.		$	1.87			$	1.54			$	2.36

See notes to consolidated financial statements.

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

CONSOLIDATED STATEMENTS of STOCKHOLDERS’ EQUITY

(in millions of dollars, except per share data)

 

		Attributable to Altria Group, Inc.
		Common Stock				Additional Paid-in Capital				Earnings Reinvested in the Business				Accumulated Other Comprehensive Earnings (Losses)				Cost of Repurchased Stock				Comprehensive Earnings				Non- controlling Interests				Total Stockholders’ Equity
Balances, December 31, 2007		$	935			$	6,884			$	34,426			$	111			$	(23,454	)		$	—			$	418			$	19,320
Comprehensive earnings:
Net earnings											4,930												4,930				61				4,991
Other comprehensive earnings (losses), net of income taxes:
Currency translation adjustments															233								233				7				240
Change in net loss and prior service cost															(1,385	)							(1,385	)							(1,385	)
Change in fair value of derivatives accounted for as hedges															(177	)							(177	)							(177	)
Ownership share of SABMiller other comprehensive losses															(308	)							(308	)							(308	)
Total other comprehensive (losses) earnings																							(1,637	)			7				(1,630	)
Total comprehensive earnings																							3,293				68				3,361
Exercise of stock options and other stock award activity							(534	)											213												(321	)
Cash dividends declared ($1.68 per share)											(3,505	)																			(3,505	)
Stock repurchased																			(1,166	)											(1,166	)
Payments/other related to noncontrolling interests																											(130	)			(130	)
Spin-off of PMI											(13,720	)			(655	)											(356	)			(14,731	)
Balances, December 31, 2008			935				6,350				22,131				(2,181	)			(24,407	)							—				2,828
Comprehensive earnings:
Net earnings (a)											3,206												3,206				1				3,207
Other comprehensive earnings, net of income taxes:
Currency translation adjustments															3								3								3
Change in net loss and prior service cost															375								375								375
Ownership share of SABMiller other comprehensive earnings															242								242								242
Total other comprehensive earnings																							620				—				620
Total comprehensive earnings																							3,826				1				3,827
Exercise of stock options and other stock award activity							(353	)											506												153
Cash dividends declared ($1.32 per share)											(2,738	)																			(2,738	)
Other																											2				2
Balances, December 31, 2009			935				5,997				22,599				(1,561	)			(23,901	)							3				4,072
Comprehensive earnings:
Net earnings (a)											3,905												3,905				1				3,906
Other comprehensive earnings, net of income taxes:
Currency translation adjustments															1								1								1
Change in net loss and prior service cost															35								35								35
Ownership share of SABMiller other comprehensive earnings															41								41								41
Total other comprehensive earnings																							77								77
Total comprehensive earnings																							3,982				1				3,983
Exercise of stock options and other stock award activity							(246	)											432												186
Cash dividends declared ($1.46 per share)											(3,045	)																			(3,045	)
Other																											(1	)			(1	)
Balances, December 31, 2010		$	935			$	5,751			$	23,459			$	(1,484	)		$	(23,469	)						$	3			$	5,195

 

(a)

Net earnings attributable to noncontrolling interests for the years ended December 31, 2010 and 2009 exclude $1 million due to the redeemable noncontrolling interest related to Stag’s Leap Wine Cellars, which is reported in the mezzanine equity section in the consolidated balance sheets at December 31, 2010 and 2009, respectively. See Note 21.

See notes to consolidated financial statements.

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

CONSOLIDATED STATEMENTS of CASH FLOWS

for the years ended December 31,

(in millions of dollars)

 

 

 

				2010				2009				2008
CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES
Earnings from continuing operations		– Consumer products		$	3,819			$	3,054			$	3,065
		– Financial services			88				154				25
Earnings from discontinued operations, net of income taxes													1,901
Net earnings					3,907				3,208				4,991
Impact of earnings from discontinued operations, net of income taxes													(1,901	)
Adjustments to reconcile net earnings to operating cash flows:
Consumer products
Depreciation and amortization					276				291				215
Deferred income tax provision					408				499				121
Earnings from equity investment in SABMiller					(628	)			(600	)			(467	)
Dividends from SABMiller					303				254				249
Asset impairment and exit costs, net of cash paid					(188	)			(22	)			197
IRS payment related to LILO and SILO transactions					(945	)
Gain on sale of corporate headquarters building													(404	)
Loss on early extinguishment of debt													393
Cash effects of changes, net of the effects from acquired and divested companies:
Receivables, net					15				(7	)			(84	)
Inventories					7				51				185
Accounts payable					48				(25	)			(162	)
Income taxes					(53	)			130				(201	)
Accrued liabilities and other current assets					(221	)			218				(27	)
Accrued settlement charges					(100	)			(346	)			5
Pension plan contributions					(30	)			(37	)			(45	)
Pension provisions and postretirement, net					185				193				192
Other					96				232				139
Financial services
Deferred income tax benefit					(284	)			(456	)			(259	)
Allowance for losses									15				100
Other					(29	)			(155	)			(22	)
Net cash provided by operating activities, continuing operations					2,767				3,443				3,215
Net cash provided by operating activities, discontinued operations													1,666
Net cash provided by operating activities					2,767				3,443				4,881

See notes to consolidated financial statements.

 

Continued

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

CONSOLIDATED STATEMENTS of CASH FLOWS (Continued)

for the years ended December 31,

(in millions of dollars)

 

 

 

				2010				2009				2008
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES
Consumer products
Capital expenditures				$	(168	)		$	(273	)		$	(241	)
Acquisition of UST, net of acquired cash									(10,244	)
Proceeds from sale of corporate headquarters building													525
Other					115				(31	)			110
Financial services
Investments in finance assets									(9	)			(1	)
Proceeds from finance assets					312				793				403
Net cash provided by (used in) investing activities, continuing operations					259				(9,764	)			796
Net cash used in investing activities, discontinued operations													(317	)
Net cash provided by (used in) investing activities					259				(9,764	)			479
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES
Consumer products
Net repayment of short-term borrowings									(205	)
Long-term debt issued					1,007				4,221				6,738
Long-term debt repaid					(775	)			(375	)			(4,057	)
Financial services
Long-term debt repaid									(500	)
Repurchase of common stock													(1,166	)
Dividends paid on common stock					(2,958	)			(2,693	)			(4,428	)
Issuance of common stock					104				89				89
PMI dividends paid to Altria Group, Inc.													3,019
Financing fees and debt issuance costs					(6	)			(177	)			(93	)
Tender and consent fees related to the early extinguishment of debt													(371	)
Changes in amounts due to/from PMI													(664	)
Other					45				(84	)			(4	)
Net cash (used in) provided by financing activities, continuing operations					(2,583	)			276				(937	)
Net cash used in financing activities, discontinued operations													(1,648	)
Net cash (used in) provided by financing activities					(2,583	)			276				(2,585	)
Effect of exchange rate changes on cash and cash equivalents:
Discontinued operations					—				—				(126	)
Cash and cash equivalents, continuing operations:
Increase (decrease)					443				(6,045	)			3,074
Balance at beginning of year					1,871				7,916				4,842
Balance at end of year				$	2,314			$	1,871			$	7,916
Cash paid, continuing operations:		Interest – Consumer products		$	1,084			$	904			$	208
		– Financial services		$	—			$	38			$	38
		Income taxes		$	1,884			$	1,606			$	1,837

See notes to consolidated financial statements.

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

Note 1. Background and Basis of Presentation:

Background:

At December 31, 2010, Altria Group, Inc.’s wholly-owned subsidiaries included Philip Morris USA Inc. (“PM USA”), which is engaged in the manufacture and sale of cigarettes and certain smokeless products in the United States; UST LLC (“UST”), which through its subsidiaries is engaged in the manufacture and sale of smokeless products and wine; and John Middleton Co. (“Middleton”), which is engaged in the manufacture and sale of machine-made large cigars and pipe tobacco. Philip Morris Capital Corporation (“PMCC”), another wholly-owned subsidiary of Altria Group, Inc., maintains a portfolio of leveraged and direct finance leases. In addition, Altria Group, Inc. held a 27.1% economic and voting interest in SABMiller plc (“SABMiller”) at December 31, 2010. Altria Group, Inc.’s access to the operating cash flows of its wholly-owned subsidiaries consists of cash received from the payment of dividends and distributions, and the payment of interest on intercompany loans by its subsidiaries. In addition, Altria Group, Inc. receives cash dividends on its interest in SABMiller, if and when SABMiller pays cash dividends on their stock.

UST Acquisition:

As discussed in Note 3. UST Acquisition, on January 6, 2009, Altria Group, Inc. acquired all of the outstanding common stock of UST, whose direct and indirect wholly-owned subsidiaries include U.S. Smokeless Tobacco Company LLC (“USSTC”) and Ste. Michelle Wine Estates Ltd. (“Ste. Michelle”). As a result of the acquisition, UST has become an indirect wholly-owned subsidiary of Altria Group, Inc.

PMI Spin-Off:

On March 28, 2008 (the “PMI Distribution Date”), Altria Group, Inc. distributed all of its interest in Philip Morris International Inc. (“PMI”) to Altria Group, Inc. stockholders of record as of the close of business on March 19, 2008 (the “PMI Record Date”), in a tax-free distribution. Altria Group, Inc. distributed one share of PMI common stock for every share of Altria Group, Inc. common stock outstanding as of the PMI Record Date. Following the PMI Distribution Date, Altria Group, Inc. does not own any shares of PMI stock. Altria Group, Inc. has reflected the results of PMI prior to the PMI Distribution Date as discontinued operations on the consolidated statement of earnings and the consolidated statement of cash flows for the year ended December 31, 2008. The distribution resulted in a net decrease to Altria Group, Inc.’s total stockholders’ equity of $14.7 billion on the PMI Distribution Date.

Holders of Altria Group, Inc. stock options were treated similarly to public stockholders and, accordingly, had their stock awards split into two instruments. Holders of Altria Group, Inc. stock options received the following stock options, which, immediately after the spin-off, had an aggregate intrinsic value equal to the intrinsic value of the pre-spin Altria Group, Inc. options:

 

•

a new PMI option to acquire the same number of shares of PMI common stock as the number of Altria Group, Inc. options held by such person on the PMI Distribution Date; and

 

•

an adjusted Altria Group, Inc. option for the same number of shares of Altria Group, Inc. common stock with a reduced exercise price.

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

As set forth in the Employee Matters Agreement between Altria Group, Inc. and PMI (the “PMI Employee Matters Agreement”), the exercise price of each option was developed to reflect the relative market values of PMI and Altria Group, Inc. shares, by allocating the share price of Altria Group, Inc. common stock before the spin-off ($73.83) to PMI shares ($51.44) and Altria Group, Inc. shares ($22.39) and then multiplying each of these allocated values by the Option Conversion Ratio as defined in the PMI Employee Matters Agreement. The Option Conversion Ratio was equal to the exercise price of the Altria Group, Inc. option, prior to any adjustment for the spin-off, divided by the share price of Altria Group, Inc. common stock before the spin-off ($73.83).

Holders of Altria Group, Inc. restricted stock or deferred stock awarded prior to January 30, 2008, retained their existing awards and received the same number of shares of restricted or deferred stock of PMI. The restricted stock and deferred stock will not vest until the completion of the original restriction period (typically, three years from the date of the original grant). Recipients of Altria Group, Inc. deferred stock awarded on January 30, 2008, who were employed by Altria Group, Inc. after the PMI Distribution Date, received additional shares of deferred stock of Altria Group, Inc. to preserve the intrinsic value of the award. Recipients of Altria Group, Inc. deferred stock awarded on January 30, 2008, who were employed by PMI after the PMI Distribution Date, received substitute shares of deferred stock of PMI to preserve the intrinsic value of the award.

To the extent that employees of Altria Group, Inc. after the PMI Distribution Date received PMI stock options, Altria Group, Inc. reimbursed PMI in cash for the Black-Scholes fair value of the stock options received. To the extent that PMI employees held Altria Group, Inc. stock options, PMI reimbursed Altria Group, Inc. in cash for the Black-Scholes fair value of the stock options. To the extent that employees of Altria Group, Inc. received PMI deferred stock, Altria Group, Inc. paid to PMI the fair value of the PMI deferred stock less the value of projected forfeitures. To the extent that PMI employees held Altria Group, Inc. restricted stock or deferred stock, PMI reimbursed Altria Group, Inc. in cash for the fair value of the restricted or deferred stock less the value of projected forfeitures and any amounts previously charged to PMI for the restricted or deferred stock. Based upon the number of Altria Group, Inc. stock awards outstanding at the PMI Distribution Date, the net amount of these reimbursements resulted in a payment of $449 million from Altria Group, Inc. to PMI. The reimbursement to PMI is reflected as a decrease to the additional paid-in capital of Altria Group, Inc. on the December 31, 2008 consolidated balance sheet.

In connection with the spin-off, PMI paid to Altria Group, Inc. $4.0 billion in special dividends in addition to its normal dividends to Altria Group, Inc. PMI paid $3.1 billion of these special dividends in 2007 and paid the additional $900 million in the first quarter of 2008.

Prior to the PMI spin-off, PMI was included in the Altria Group, Inc. consolidated federal income tax return, and PMI’s federal income tax contingencies were recorded as liabilities on the balance sheet of Altria Group, Inc. Altria Group, Inc. reimbursed PMI in cash for these liabilities. See Note 16. Income Taxes for a discussion of the Tax Sharing Agreement between Altria Group, Inc. and PMI that is currently in effect.

Prior to the PMI spin-off, certain employees of PMI participated in the U.S. benefit plans offered by Altria Group, Inc. The benefits previously provided by Altria Group, Inc. are now provided by PMI. As a result, new plans were established by PMI, and the related plan assets (to the extent

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

that the benefit plans were previously funded) and liabilities were transferred to the PMI plans. Altria Group, Inc. paid PMI in cash for these transfers.

A subsidiary of Altria Group, Inc. previously provided PMI with certain corporate services at cost plus a management fee. After the PMI Distribution Date, PMI independently undertook most of these activities. All remaining limited services provided to PMI ceased in 2008. The settlement of the intercompany accounts as of the PMI Distribution Date (including amounts related to stock awards, tax contingencies and benefit plans discussed above) resulted in a net payment from Altria Group, Inc. to PMI of $332 million. In March 2008, Altria Group, Inc. made an estimated payment of $427 million to PMI, thereby resulting in PMI reimbursing $95 million to Altria Group, Inc. in the second quarter of 2008.

Dividends and Share Repurchases:

Following the PMI spin-off, Altria Group, Inc. lowered its dividend so that holders of both Altria Group, Inc. and PMI shares would receive initially, in the aggregate, the same dividends paid by Altria Group, Inc. prior to the PMI spin-off.

On February 24, 2010, Altria Group, Inc.’s Board of Directors approved a 2.9% increase in the quarterly dividend to $0.35 per common share from $0.34 per common share. On August 27, 2010, Altria Group, Inc.’s Board of Directors approved an additional 8.6% increase in the quarterly dividend to $0.38 per common share, resulting in an aggregate quarterly dividend rate increase of 11.8% since the beginning of 2010. The current annualized dividend rate is $1.52 per Altria Group, Inc. common share. Future dividend payments remain subject to the discretion of Altria Group, Inc.’s Board of Directors.

In January 2011, Altria Group, Inc.’s Board of Directors authorized a new $1.0 billion one-year share repurchase program. Share repurchases under this program depend upon marketplace conditions and other factors. The share repurchase program remains subject to the discretion of Altria Group, Inc.’s Board of Directors.

During the second quarter of 2008, Altria Group, Inc. repurchased 53.5 million shares of its common stock at an aggregate cost of approximately $1.2 billion, or an average price of $21.81 per share pursuant to its $4.0 billion (2008 to 2010) share repurchase program. No shares were repurchased during 2010 or 2009 under this share repurchase program, which was suspended in September 2009. The new share repurchase program replaces the suspended program.

Basis of presentation:

The consolidated financial statements include Altria Group, Inc., as well as its wholly-owned and majority-owned subsidiaries. Investments in which Altria Group, Inc. exercises significant influence (20%-50% ownership interest) are accounted for under the equity method of accounting. All intercompany transactions and balances have been eliminated.

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent liabilities at the dates of the financial statements and the reported amounts of net revenues and expenses during the reporting periods. Significant estimates and assumptions include, among other things, pension and benefit plan assumptions, lives and valuation

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

assumptions for goodwill and other intangible assets, marketing programs, income taxes, and the allowance for loan losses and estimated residual values of finance leases. Actual results could differ from those estimates.

Balance sheet accounts are segregated by two broad types of business. Consumer products assets and liabilities are classified as either current or non-current, whereas financial services assets and liabilities are unclassified, in accordance with respective industry practices.

The 2009 reduction of a Kraft Foods Inc. (“Kraft”) tax-related receivable has been reclassified to conform with the current year’s presentation.

Note 2. Summary of Significant Accounting Policies:

Cash and cash equivalents:

Cash equivalents include demand deposits with banks and all highly liquid investments with original maturities of three months or less. Cash equivalents are stated at cost plus accrued interest, which approximates fair value.

Depreciation, amortization and intangible asset valuation:

Property, plant and equipment are stated at historical cost and depreciated by the straight-line method over the estimated useful lives of the assets. Machinery and equipment are depreciated over periods up to 25 years, and buildings and building improvements over periods up to 50 years.

Definite-lived intangible assets are amortized over their estimated useful lives. Altria Group, Inc. conducts a required annual review of goodwill and indefinite-lived intangible assets for potential impairment, and more frequently if an event occurs or circumstances change that would require Altria Group, Inc. to perform an interim review. Goodwill impairment testing requires a comparison between the carrying value and fair value of each reporting unit. If the carrying value exceeds the fair value, goodwill is considered impaired. The amount of impairment loss is measured as the difference between the carrying value and implied fair value of goodwill, which is determined using discounted cash flows. Impairment testing for indefinite-lived intangible assets requires a comparison between the fair value and carrying value of the intangible asset. If the carrying value exceeds fair value, the intangible asset is considered impaired and is reduced to fair value. During 2010, 2009 and 2008, Altria Group, Inc. completed its annual review of goodwill and indefinite-lived intangible assets, and no impairment charges resulted from these reviews.

Environmental costs:

Altria Group, Inc. is subject to laws and regulations relating to the protection of the environment. Altria Group, Inc. provides for expenses associated with environmental remediation obligations on an undiscounted basis when such amounts are probable and can be reasonably estimated. Such accruals are adjusted as new information develops or circumstances change.

Compliance with environmental laws and regulations, including the payment of any remediation and compliance costs or damages and the making of related expenditures, has not had, and is not expected to have, a material adverse effect on Altria Group, Inc.’s consolidated financial position, results of operations or cash flows. (see Note 21. Contingencies — Environmental Regulation).

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Fair Value Measurements:

Altria Group, Inc. measures certain assets and liabilities at fair value. Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. Altria Group, Inc. uses a fair value hierarchy, which gives the highest priority to unadjusted quoted prices in active markets for identical assets and liabilities (level 1 measurements) and the lowest priority to unobservable inputs ( level 3 measurements). The three levels of inputs used to measure fair value are:

 

Level 1		Unadjusted quoted prices in active markets for identical assets or liabilities.
Level 2		Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
Level 3		Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

The fair value of substantially all of Altria Group, Inc.’s pension assets is based on observable inputs, including readily available quoted market prices, which meet the definition of a Level 1 or Level 2 input. For the fair value disclosure of the pension plan assets, see Note 18. Benefit Plans.

Altria Group, Inc. assesses the fair value of any derivative financial instruments using internally developed models that use, as their basis, readily observable future amounts, such as cash flows, earnings, and the current market expectations of those future amounts. As discussed in Note 20. Financial Instruments, at December 31, 2010, Altria Group, Inc. had no derivative financial instruments remaining.

Finance leases:

Income attributable to leveraged leases is initially recorded as unearned income and subsequently recognized as revenue over the terms of the respective leases at constant after-tax rates of return on the positive net investment balances. Investments in leveraged leases are stated net of related nonrecourse debt obligations.

Income attributable to direct finance leases is initially recorded as unearned income and subsequently recognized as revenue over the terms of the respective leases at constant pre-tax rates of return on the net investment balances.

Finance leases include unguaranteed residual values that represent PMCC’s estimates at lease inception as to the fair values of assets under lease at the end of the non-cancelable lease terms. The estimated residual values are reviewed annually by PMCC’s management, which includes analysis of a number of factors, including activity in the relevant industry. If necessary, revisions are recorded to reduce the residual values. Such reviews resulted in a decrease of $11 million to PMCC’s net revenues and results of operations in 2010. There were no adjustments in 2009 and 2008.

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

PMCC considers rents receivable past due when they are beyond the grace period of their contractual due date. PMCC ceases recording income (“non-accrual status”) on rents receivable when contractual payments become 90 days past due or earlier if management believes there is significant uncertainty of collectability of rent payments, and resumes recording income when collectability of rent payments is reasonably certain. Payments received on rents receivable that are on non-accrual status are used to reduce the rents receivable balance. Write-offs to the allowance for losses are recorded when amounts are deemed to be uncollectible. There were no rents receivable on non-accrual status at December 31, 2010.

Foreign currency translation:

Altria Group, Inc. translates the results of operations of its foreign subsidiaries using average exchange rates during each period, whereas balance sheet accounts are translated using exchange rates at the end of each period. Currency translation adjustments are recorded as a component of stockholders’ equity. The accumulated currency translation adjustments related to PMI were recognized and recorded in connection with the PMI distribution. Transaction gains and losses are recorded in the consolidated statements of earnings and are not significant for any of the periods presented.

Guarantees:

Altria Group, Inc. recognizes a liability for the fair value of the obligation of qualifying guarantee activities. See Note 21. Contingencies for a further discussion of guarantees.

Impairment of long-lived assets:

Altria Group, Inc. reviews long-lived assets, including definite-lived intangible assets, for impairment whenever events or changes in business circumstances indicate that the carrying value of the assets may not be fully recoverable. Altria Group, Inc. performs undiscounted operating cash flow analyses to determine if an impairment exists. For purposes of recognition and measurement of an impairment for assets held for use, Altria Group, Inc. groups assets and liabilities at the lowest level for which cash flows are separately identifiable. If an impairment is determined to exist, any related impairment loss is calculated based on fair value. Impairment losses on assets to be disposed of, if any, are based on the estimated proceeds to be received, less costs of disposal.

Income taxes:

Deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities, using enacted tax rates in effect for the year in which the differences are expected to reverse. Significant judgment is required in determining income tax provisions and in evaluating tax positions.

Altria Group, Inc. recognizes a benefit for uncertain tax positions when a tax position taken or expected to be taken in a tax return is more-likely-than-not to be sustained upon examination by taxing authorities. The amount recognized is measured as the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement.

Altria Group, Inc. recognizes accrued interest and penalties associated with uncertain tax positions as part of the provision for income taxes on its consolidated statements of earnings.

 

 

12

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Inventories:

Inventories are stated at the lower of cost or market. The last-in, first-out (“LIFO”) method is used to cost substantially all tobacco inventories. The cost of the remaining inventories is determined using the first-in, first-out (“FIFO”) and average cost methods. It is a generally recognized industry practice to classify leaf tobacco and wine inventories as current assets although part of such inventory, because of the duration of the curing and aging process, ordinarily would not be utilized within one year.

Marketing costs:

The consumer products businesses promote their products with consumer engagement programs, consumer incentives and trade promotions. Such programs include, but are not limited to, discounts, coupons, rebates, in-store display incentives, event marketing and volume-based incentives. Consumer engagement programs are expensed as incurred. Consumer incentive and trade promotion activities are recorded as a reduction of revenues based on amounts estimated as being due to customers and consumers at the end of a period, based principally on historical utilization and redemption rates. For interim reporting purposes, consumer engagement programs and certain consumer incentive expenses are charged to operations as a percentage of sales, based on estimated sales and related expenses for the full year.

Revenue recognition:

The consumer products businesses recognize revenues, net of sales incentives and sales returns, and including shipping and handling charges billed to customers, upon shipment or delivery of goods when title and risk of loss pass to customers. Payments received in advance of revenue recognition are deferred and recorded in other accrued liabilities until revenue is recognized. Altria Group, Inc.’s consumer products businesses also include excise taxes billed to customers in net revenues. Shipping and handling costs are classified as part of cost of sales.

Stock-based compensation:

Altria Group, Inc. measures compensation cost for all stock-based awards at fair value on date of grant and recognizes compensation expense over the service periods for awards expected to vest. The fair value of restricted stock and deferred stock is determined based on the number of shares granted and the market value at date of grant. The fair value of stock options is determined using a modified Black-Scholes methodology.

 

13

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 3. UST Acquisition:

On January 6, 2009, Altria Group, Inc. acquired all of the outstanding common stock of UST. The transaction was valued at approximately $11.7 billion, which represented a purchase price of $10.4 billion and approximately $1.3 billion of UST debt, which together with acquisition-related costs and payments of approximately $0.6 billion (consisting primarily of financing fees, the funding of UST’s non-qualified pension plans, investment banking fees and the early retirement of UST’s revolving credit facility), represented a total cash outlay of approximately $11 billion.

In connection with the acquisition of UST, Altria Group, Inc. had in place at December 31, 2008, a 364-day term bridge loan facility (“Bridge Facility”). On January 6, 2009, Altria Group, Inc. borrowed the entire available amount of $4.3 billion under the Bridge Facility, which was used along with available cash of $6.7 billion, representing the net proceeds from the issuances of senior unsecured long-term notes in November and December 2008, to fund the acquisition of UST. As discussed in Note 11. Long-Term Debt, in February 2009, Altria Group, Inc. also issued $4.2 billion of senior unsecured long-term notes. The net proceeds from the issuance of these notes, along with available cash, were used to prepay all of the outstanding borrowings under the Bridge Facility. Upon such prepayment, the Bridge Facility was terminated.

UST’s financial position and results of operations have been consolidated with Altria Group, Inc. as of January 6, 2009. Pro forma results of Altria Group, Inc., for the year ended December 31, 2009, assuming the acquisition had occurred on January 1, 2009, would not be materially different from the actual results reported for the year ended December 31, 2009. The following unaudited supplemental pro forma data present consolidated information of Altria Group, Inc. as if the acquisition of UST had been consummated on January 1, 2008. The pro forma results are not necessarily indicative of what actually would have occurred if the acquisition and related borrowings had been consummated on January 1, 2008.

 

		Pro Forma Year Ended December 31, 2008
		(in millions, except per share data)
Net revenues		$	21,339
Earnings from continuing operations		$	2,677
Net earnings		$	4,578
Net earnings attributable to Altria Group, Inc.		$	4,515
Per share data:
Basic earnings per share:
Continuing operations		$	1.29
Discontinued operations			0.88
Net earnings attributable to Altria Group, Inc.		$	2.17
Diluted earnings per share:
Continuing operations		$	1.28
Discontinued operations			0.88
Net earnings attributable to Altria Group, Inc.		$	2.16

 

14

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

The pro forma amounts reflect the application of the following adjustments as if the acquisition had occurred on January 1, 2008:

 

•

additional depreciation and amortization expense that would have been charged assuming the fair value adjustments to property, plant and equipment, and intangible assets had been applied from January 1, 2008;

 

•

additional interest expense and financing fees that would have been incurred assuming all borrowing arrangements used to fund the acquisition had been in place as of January 1, 2008;

 

•

restructuring costs incurred to restructure and integrate UST operations;

 

•

transaction costs associated with the acquisition; and

 

•

increased cost of sales, reflecting the fair value adjustment of UST’s subsidiaries’ inventory sold during the year.

During the fourth quarter of 2009, the allocation of purchase price relating to the acquisition of UST was completed. The following amounts represent the fair value of identifiable assets acquired and liabilities assumed in the UST acquisition:

 

		(in millions)
Cash and cash equivalents		$	163
Inventories			796
Property, plant and equipment			688
Other intangible assets:
Indefinite-lived trademarks			9,059
Definite-lived (20-year life)			60
Short-term borrowings			(205	)
Current portion of long-term debt			(240	)
Long-term debt			(900	)
Deferred income taxes			(3,535	)
Other assets and liabilities, net			(540	)
Noncontrolling interests			(36	)
Total identifiable net assets			5,310
Total purchase price			10,407
Goodwill		$	5,097

The excess of the purchase price paid by Altria Group, Inc. over the fair value of identifiable net assets acquired in the acquisition of UST primarily reflects the value of adding USSTC and its subsidiaries to Altria Group, Inc.’s family of tobacco operating companies (PM USA and Middleton), with leading brands in cigarettes, smokeless products and machine-made large cigars, and anticipated annual synergies of approximately $300 million resulting primarily from reduced selling, general and administrative, and corporate expenses. None of the goodwill or other intangible assets will be deductible for tax purposes.

 

15

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

The assets acquired, liabilities assumed and noncontrolling interests of UST have been measured as of the acquisition date. In valuing trademarks, Altria Group, Inc. estimated the fair value using a discounted cash flow methodology. No material contingent liabilities were recognized as of the acquisition date because the acquisition date fair value of such contingencies cannot be determined, and the contingencies are not both probable and reasonably estimable. Additionally, costs incurred to effect the acquisition, as well as costs to restructure UST, are being recognized as expenses in the periods in which the costs are incurred. For the years ended December 31, 2010, 2009 and 2008, Altria Group, Inc. incurred pre-tax acquisition-related charges, as well as restructuring and integration costs, consisting of the following:

 

		For the Years Ended December 31,
		2010				2009				2008
		(in millions)
Asset impairment and exit costs		$	6			$	202			$	—
Integration costs			18				49
Inventory adjustments			22				36
Financing fees							91				58
Transaction costs							60
Total		$	46			$	438			$	58

Total acquisition-related charges, as well as restructuring and integration costs incurred since the September 8, 2008 announcement of the acquisition, were $542 million as of December 31, 2010. Pre-tax charges and costs related to the acquisition of UST are substantially complete.

 

16

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 4. Divestiture:

As discussed in Note 1. Background and Basis of Presentation, on March 28, 2008, Altria Group, Inc. distributed all of its interest in PMI to Altria Group, Inc. stockholders in a tax-free distribution.

Summarized financial information for the discontinued operations of PMI for the year ended December 31, 2008 was as follows:

 

		2008
		(in millions)
Net revenues		$	15,376
Earnings before income taxes		$	2,701
Provision for income taxes			(800	)
Earnings from discontinued operations, net of income taxes			1,901
Net earnings attributable to noncontrolling interests			(61	)
Earnings from discontinued operations		$	1,840

Note 5. Goodwill and Other Intangible Assets, net:

Goodwill and other intangible assets, net, by segment were as follows:

 

		Goodwill								Other Intangible Assets, net
		December 31, 2010				December 31, 2009				December 31, 2010				December 31, 2009
		(in millions)
Cigarettes		$	—			$	—			$	261			$	272
Smokeless products			5,023				5,023				8,843				8,845
Cigars			77				77				2,744				2,750
Wine			74				74				270				271
Total		$	5,174			$	5,174			$	12,118			$	12,138

Goodwill relates to the January 2009 acquisition of UST (see Note 3. UST Acquisition) and the December 2007 acquisition of Middleton.

Other intangible assets consisted of the following:

 

		December 31, 2010								December 31, 2009
		Gross Carrying Amount				Accumulated Amortization				Gross Carrying Amount				Accumulated Amortization
		(in millions)
Indefinite-lived intangible assets		$	11,701							$	11,701
Definite-lived intangible assets			464			$	47				464			$	27
Total other intangible assets		$	12,165			$	47			$	12,165			$	27

 

17

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Indefinite-lived intangible assets consist substantially of trademarks from the January 2009 acquisition of UST ($9.1 billion) and the December 2007 acquisition of Middleton ($2.6 billion). Definite-lived intangible assets, which consist primarily of customer relationships and certain cigarette trademarks, are amortized over periods up to 25 years. Pre-tax amortization expense for definite-lived intangible assets during the years ended December 31, 2010, 2009 and 2008, was $20 million, $20 million and $7 million, respectively. Annual amortization expense for each of the next five years is estimated to be approximately $20 million, assuming no additional transactions occur that require the amortization of intangible assets.

The changes in goodwill and gross carrying amount of other intangible assets for the years ended December 31, 2010 and 2009 were as follows:

 

		2010								2009
		Goodwill				Other Intangible Assets				Goodwill				Other Intangible Assets
		(in millions)
Balance at beginning of year		$	5,174			$	12,165			$	77			$	3,046
Changes due to:
Acquisition of UST											5,097				9,119
Balance at end of year		$	5,174			$	12,165			$	5,174			$	12,165

 

18

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 6. Asset Impairment, Exit, Implementation and Integration Costs:

Pre-tax asset impairment, exit, implementation and integration costs for the years ended December 31, 2010, 2009 and 2008 consisted of the following:

 

		For the Year Ended December 31, 2010
		Asset Impairment and Exit Costs				Implementation Costs				Integration Costs				Total
		(in millions)
Cigarettes		$	24			$	75			$	—			$	99
Smokeless products			6								16				22
Cigars											2				2
Wine											2				2
General corporate			6												6
Total		$	36			$	75			$	20			$	131
		For the Year Ended December 31, 2009
		Asset Impairment and Exit Costs				Implementation Costs				Integration Costs				Total
		(in millions)
Cigarettes		$	115			$	139			$	—			$	254
Smokeless products			193								43				236
Cigars											9				9
Wine			3								6				9
Financial services			19												19
General corporate			91												91
Total		$	421			$	139			$	58			$	618
		For the Year Ended December 31, 2008
		Exit Costs				Implementation Costs				Integration Costs				Total
		(in millions)
Cigarettes		$	97			$	69			$	—			$	166
Cigars											18				18
Financial services			2												2
General corporate			350												350
Total		$	449			$	69			$	18			$	536

 

19

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

The movement in the severance liability and details of asset impairment and exit costs for Altria Group, Inc. for the years ended December 31, 2010 and 2009 was as follows:

 

		Severance				Other				Total
		(in millions)
Severance liability balance, December 31, 2008		$	348			$	—			$	348
Charges			185				236				421
Cash spent			(307	)			(119	)			(426	)
Liability recorded in pension and postretirement plans, and other			2				(117	)			(115	)
Severance liability balance, December 31, 2009			228				—				228
Charges, net			(11	)			47				36
Cash spent			(191	)			(36	)			(227	)
Other							(11	)			(11	)
Severance liability balance, December 31, 2010		$	26			$	—			$	26

Other charges in the table above primarily include other employee termination benefits including pension and postretirement. Charges, net in the table above include the reversal of $13 million of severance costs associated with the Manufacturing Optimization Program in 2010.

The pre-tax asset impairment, exit, implementation, and integration costs shown above are primarily a result of the programs discussed below.

Integration and Restructuring Program:

Altria Group, Inc. has substantially completed a restructuring program that commenced in December 2008, and was expanded in August 2009. Pursuant to this program, Altria Group, Inc. restructured corporate, manufacturing, and sales and marketing services functions in connection with the integration of UST and its focus on optimizing company-wide cost structures in light of ongoing declines in U.S. cigarette volumes.

 

20

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

As a result of this restructuring program, pre-tax asset impairment, exit and integration costs for the years ended December 31, 2010 and 2009 consisted of the following:

 

		For the Year Ended December 31, 2010
		Asset Impairment and Exit Costs				Integration Costs				Total
		(in millions)
Smokeless products		$	6			$	16			$	22
Wine							2				2
General corporate			4								4
Total		$	10			$	18			$	28
		For the Year Ended December 31, 2009
		Asset Impairment and Exit Costs				Integration Costs				Total
		(in millions)
Cigarettes		$	18			$	—			$	18
Smokeless products			193				43				236
Wine			3				6				9
Financial services			4								4
General corporate			61								61
Total		$	279			$	49			$	328

For the year ended December 31, 2008, pre-tax exit costs of $126 million was recorded for the program in the cigarettes segment ($48 million), financial services segment ($2 million) and general corporate ($76 million).

These charges are primarily related to employee separation costs, lease exit costs, relocation of employees, asset impairments and other costs related to the integration of UST operations. The pre-tax integration costs were included in marketing, administration and research costs on Altria Group, Inc.’s consolidated statements of earnings for the years ended December 31, 2010 and 2009. Total pre-tax charges incurred since the inception of the program through December 31, 2010 were $482 million. Cash payments related to the program of $111 million and $221 million were made during the years ended December 31, 2010 and 2009, respectively, for a total of $332 million since inception. Cash payments related to this program are substantially complete.

Headquarters Relocation:

During 2008, in connection with the spin-off of PMI, Altria Group, Inc. restructured its corporate headquarters, which included the relocation of Altria Group, Inc.’s corporate headquarters functions to Richmond, Virginia. This program has been completed. During the years ended December 31, 2010, 2009 and 2008, Altria Group, Inc. incurred pre-tax charges of $2 million, $30 million and $219 million, respectively, for this program. Total pre-tax charges incurred since the inception of this restructuring were $251 million as of December 31, 2010. These charges consisted primarily of employee separation costs. Cash payments related to this restructuring of $7 million, $65 million and $136 million were made during the years ended December 31, 2010,

 

21

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

2009 and 2008, respectively, for a total of $208 million since inception. Cash payments related to this program are substantially complete.

For the year ended December 31, 2008, general corporate exit costs also included $55 million of investment banking and legal fees associated with the PMI spin-off.

Manufacturing Optimization Program:

PM USA ceased production at its Cabarrus, North Carolina manufacturing facility and completed the consolidation of its cigarette manufacturing capacity into its Richmond, Virginia facility on July 29, 2009. PM USA took this action to address ongoing cigarette volume declines including the impact of the federal excise tax (“FET”) increase enacted in early 2009. During 2010, PM USA substantially completed the de-commissioning of the Cabarrus facility and expects to fully complete the de-commissioning in early 2011.

In October 2010, PM USA entered into an agreement for the sale of the Cabarrus facility and land. In November 2010, the prospective purchaser exercised its right to terminate the agreement. The future sale of the Cabarrus facility and land will not have a material impact on the financial results of Altria Group, Inc.

As a result of this consolidation program, which commenced in 2007, PM USA expects to incur total pre-tax charges of approximately $800 million, which consist of employee separation costs of $325 million, accelerated depreciation of $275 million and other charges of $200 million, primarily related to the relocation of employees and equipment, net of estimated gains on sales of land and buildings. Total pre-tax charges incurred for the program through December 31, 2010 of $824 million, which are reflected in the cigarettes segment, do not reflect estimated gains from the future sales of land and buildings.

PM USA recorded pre-tax charges for this program as follows:

 

		For the Years Ended December 31,
		2010				2009				2008
		(in millions)
Asset impairment and exit costs		$	24			$	97			$	49
Implementation costs			75				139				69
Total		$	99			$	236			$	118

Pre-tax implementation costs related to this program were primarily related to accelerated depreciation and were included in cost of sales in the consolidated statements of earnings for the years ended December 31, 2010, 2009 and 2008, respectively.

Cash payments related to the program of $128 million, $210 million and $85 million were made during the years ended December 31, 2010, 2009 and 2008, respectively, for total cash payments of $434 million since inception, which do not reflect estimated proceeds on future sales of land and buildings. Cash payments related to this program are substantially complete.

 

22

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 7. Inventories:

The cost of approximately 71% and 75% of inventories in 2010 and 2009, respectively, was determined using the LIFO method. The stated LIFO amounts of inventories were approximately $0.7 billion and $0.8 billion lower than the current cost of inventories at December 31, 2010 and 2009, respectively.

Note 8. Investment in SABMiller:

At December 31, 2010, Altria Group, Inc. held a 27.1% economic and voting interest in SABMiller. Altria Group, Inc.’s investment in SABMiller is being accounted for under the equity method.

Pre-tax earnings from Altria Group, Inc.’s equity investment in SABMiller consisted of the following:

 

		For the Years Ended December 31,
		2010				2009				2008
		(in millions)
Equity earnings		$	578			$	407			$	467
Gains resulting from issuances of common stock by SABMiller			50				193
		$	628			$	600			$	467

Summary financial data of SABMiller is as follows:

 

		At December 31,
		2010				2009
		(in millions)
Current assets		$	4,518			$	4,495
Long-term assets		$	34,744			$	33,841
Current liabilities		$	6,625			$	5,307
Long-term liabilities		$	11,270			$	13,199
Non-controlling interests		$	766			$	672

 

23

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

		For the Years Ended December 31,
		2010				2009				2008
		(in millions)
Net revenues		$	18,981			$	17,020			$	20,466
Operating profit		$	2,821			$	2,173			$	2,854
Net earnings		$	2,133			$	1,473			$	1,635

The fair value, based on market quotes, of Altria Group, Inc.’s equity investment in SABMiller at December 31, 2010, was $15.1 billion, as compared with its carrying value of $5.4 billion. The fair value, based on market quotes, of Altria Group, Inc.’s equity investment in SABMiller at December 31, 2009, was $12.7 billion, as compared with its carrying value of $5.0 billion.

 

24

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 9. Finance Assets, net:

In 2003, PMCC ceased making new investments and began focusing exclusively on managing its existing portfolio of finance assets in order to maximize gains and generate cash flow from asset sales and related activities. Accordingly, PMCC’s operating companies income will fluctuate over time as investments mature or are sold. During 2010, 2009 and 2008, proceeds from asset sales, lease maturities and bankruptcy recoveries totaled $312 million, $793 million and $403 million, respectively, and gains included in operating companies income totaled $72 million, $257 million and $87 million, respectively.

At December 31, 2010, finance assets, net, of $4,502 million were comprised of investments in finance leases of $4,704 million, reduced by the allowance for losses of $202 million. At December 31, 2009, finance assets, net, of $4,803 million were comprised of investments in finance leases of $5,069 million, reduced by the allowance for losses of $266 million.

A summary of the net investments in finance leases at December 31, before allowance for losses, was as follows:

 

		Leveraged Leases								Direct Finance Leases								Total
		2010				2009				2010				2009				2010				2009
		(in millions)
Rents receivable, net		$	4,659			$	5,137			$	207			$	274			$	4,866			$	5,411
Unguaranteed residual values			1,327				1,411				87				87				1,414				1,498
Unearned income			(1,573	)			(1,816	)			(3	)			(23	)			(1,576	)			(1,839	)
Deferred investment tax credits							(1	)															(1	)
Investments in finance leases			4,413				4,731				291				338				4,704				5,069
Deferred income taxes			(3,830	)			(4,126	)			(130	)			(155	)			(3,960	)			(4,281	)
Net investments in finance leases		$	583			$	605			$	161			$	183			$	744			$	788

For leveraged leases, rents receivable, net, represent unpaid rents, net of principal and interest payments on third-party nonrecourse debt. PMCC’s rights to rents receivable are subordinate to the third-party nonrecourse debtholders, and the leased equipment is pledged as collateral to the debtholders. The repayment of the nonrecourse debt is collateralized by lease payments receivable and the leased property, and is nonrecourse to the general assets of PMCC. As required by U.S. GAAP, the third-party nonrecourse debt of $8.3 billion and $9.2 billion at December 31, 2010 and 2009, respectively, has been offset against the related rents receivable. There were no leases with contingent rentals in 2010 and 2009.

At December 31, 2010, PMCC’s investments in finance leases were principally comprised of the following investment categories: rail and surface transport (30%), aircraft (25%), electric power (24%), real estate (12%) and manufacturing (9%). Investments located outside the United States, which are all U.S. dollar-denominated, represent 23% and 22% of PMCC’s investments in finance leases at December 31, 2010 and 2009, respectively.

 

25

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Rents receivable in excess of debt service requirements on third-party nonrecourse debt related to leveraged leases and rents receivable from direct finance leases at December 31, 2010, were as follows:

 

		Leveraged Leases				Direct Finance Leases				Total
		(in millions)
2011		$	82			$	45			$	127
2012			130				45				175
2013			174				45				219
2014			259				45				304
2015			405								405
Thereafter			3,609				27				3,636
Total		$	4,659			$	207			$	4,866

Included in net revenues for the years ended December 31, 2010, 2009 and 2008, were leveraged lease revenues of $160 million, $341 million and $210 million, respectively, and direct finance lease revenues of $1 million, $7 million and $5 million, respectively. Income tax expense on leveraged lease revenues for the years ended December 31, 2010, 2009 and 2008, was $58 million, $119 million and $72 million, respectively.

Income from investment tax credits on leveraged leases, and initial direct and executory costs on direct finance leases, were not significant during the years ended December 31, 2010, 2009 and 2008.

PMCC maintains an allowance for losses, which provides for estimated losses on its investments in finance leases. PMCC’s portfolio consists of leveraged and direct finance leases to a diverse base of lessees participating in a wide variety of industries. Losses on such leases are recorded when probable and estimable. PMCC regularly performs a systematic assessment of each individual lease in its portfolio to determine potential credit or collection issues that might indicate impairment. Impairment takes into consideration both the probability of default and the likelihood of recovery if default were to occur. PMCC considers both quantitative and qualitative factors of each investment when performing its assessment of the allowance for losses.

Quantitative factors that indicate potential default are tied most directly to public debt ratings. PMCC monitors all publicly available information on its obligors, including financial statements and credit rating agency reports. Qualitative factors that indicate the likelihood of recovery if default were to occur include, but are not limited to, underlying collateral value, other forms of credit support, and legal/structural considerations impacting each lease. Using all available information, PMCC calculates potential losses for each lease in its portfolio based on its default and recovery assumption for each lease. The aggregate of these potential losses forms a range of potential losses which is used as a guideline to determine the adequacy of PMCC’s allowance for losses.

PMCC has assessed its allowance for losses for its entire portfolio, and believes that the allowance for losses of $202 million is adequate. PMCC continues to monitor economic and credit conditions, and the individual situations of its lessees and their respective industries,

 

26

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

and may have to increase its allowance for losses if such conditions worsen. All PMCC lessees were current on their lease payment obligations as of December 31, 2010.

The credit quality of PMCC’s investments in finance leases at December 31, 2010 and 2009 was as follows:

 

		2010				2009
		(in millions)
Credit Rating by Standard & Poor’s/Moody’s:
“AAA/Aaa” to “A-/A3”		$	2,343			$	2,336
“BBB+/Baa1” to “BBB-/Baa3”			1,148				1,424
“BB+/Ba1” and Lower			1,213				1,309
Total		$	4,704			$	5,069

The activity in the allowance for losses on finance assets for the years ended December 31, 2010, 2009 and 2008 was as follows:

 

		2010				2009				2008
		(in millions)
Balance at beginning of year		$	266			$	304			$	204
Increase to provision							15				100
Amounts written-off			(64	)			(53	)
Balance at end of year		$	202			$	266			$	304

PMCC leased, under several lease arrangements, various types of automotive manufacturing equipment to General Motors Corporation (“GM”), which filed for bankruptcy on June 1, 2009. As of the date of the bankruptcy filing, PMCC stopped recording income on its $214 million investment in finance leases from GM. During 2009, GM rejected one of the leases, which resulted in a $49 million write-off against PMCC’s allowance for losses, lowering the investment in finance leases balance from GM to $165 million. General Motors LLC (“New GM”), which is the successor of GM’s North American automobile business, agreed to assume nearly all the remaining leases under same terms as GM, except for a rebate of a portion of future rents. The assignment of the leases to New GM was approved by the bankruptcy court and became effective in March 2010. During the first quarter of 2010, GM rejected another lease that was not assigned to New GM. The impact of the rent rebates and the 2010 lease rejection resulted in a $64 million write-off against PMCC’s allowance for losses in the first quarter of 2010. In the first quarter of 2010, PMCC participated in a transaction pursuant to which the equipment related to the rejected leases was sold to New GM. These transactions resulted in an acceleration of deferred taxes of $34 million in 2010. As of December 31, 2010, PMCC’s investment in finance leases from New GM was $101 million.

During the second quarter of 2010, PMCC completed the replacement of Ambac Assurance Corporation (“Ambac”) in the one remaining lease transaction with indirect exposure to this credit support provider whose credit rating remained below investment grade. Ambac was replaced by a company rated “AA+/Aa1” by Standard & Poor’s Ratings Services (“Standard & Poor’s”) and Moody’s Investors Service, Inc. (“Moody’s”), respectively. PMCC has no remaining exposure to Ambac.

 

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NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

On January 5, 2010, Mesa Airlines, Inc. (“Mesa”) filed for Chapter 11 bankruptcy protection. At the bankruptcy date, PMCC’s portfolio included five aircraft under leveraged leases with Mesa with a finance asset balance of $21 million. PMCC’s interest in these leases was secured by letters of credit. Upon the bankruptcy filing, PMCC drew on the letters of credit and recovered its outstanding investment.

During 2009, PMCC increased its allowance for losses by $15 million based on management’s assessment of its portfolio, including its exposure to GM. During 2008, PMCC increased its allowance for losses by $100 million primarily as a result of credit rating downgrades of certain lessees and financial market conditions.

See Note 21. Contingencies for a discussion of the Internal Revenue Service (“IRS”) disallowance of certain tax benefits pertaining to several PMCC leveraged lease transactions.

 

28

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NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 10. Short-Term Borrowings and Borrowing Arrangements:

At December 31, 2010 and 2009, Altria Group, Inc. had no short-term borrowings.

At December 31, 2010, the credit lines for Altria Group, Inc. and related activity were as follows:

 

		Type		Credit Lines				Amount Drawn				Commercial Paper Outstanding				Lines Available
				(in billions)
364-Day Agreement				$	0.6			$	—			$	—			$	0.6
3-Year Agreement					2.4												2.4
				$	3.0			$	—			$	—			$	3.0

At December 31, 2010, Altria Group, Inc. had in place a senior unsecured 364-day revolving credit agreement (the “364-Day Agreement”) and a senior unsecured 3-year revolving credit agreement (the “3-Year Agreement” and, together with the 364-Day Agreement, the “Revolving Credit Agreements”). Altria Group, Inc. entered into the 364-Day Agreement on November 17, 2010. This agreement provides for borrowings up to an aggregate principal amount of $0.6 billion and expires on November 16, 2011. The 364-Day Agreement replaced Altria Group, Inc.’s previous $0.6 billion senior unsecured 364-day revolving credit agreement, which was terminated effective November 17, 2010. The 3-Year Agreement provides for borrowings up to an aggregate principal amount of $2.4 billion and expires on November 20, 2012. Pricing under the Revolving Credit Agreements may be modified in the event of a change in the rating of Altria Group, Inc.’s long-term senior unsecured debt. Interest rates on borrowings under the Revolving Credit Agreements will be based on the London Interbank Offered Rate (“LIBOR”) plus a percentage equal to Altria Group, Inc.’s credit default swap spread subject to certain minimum rates and maximum rates based on the higher of the rating of Altria Group, Inc.’s long-term senior unsecured debt from Standard & Poor’s and Moody’s. The applicable minimum and maximum rates based on Altria Group, Inc.’s long-term senior unsecured debt ratings at December 31, 2010 for the 364-Day-Agreement are 1.0% and 2.25%, respectively. The applicable minimum and maximum rates based on Altria Group, Inc.’s long-term senior unsecured debt ratings at December 31, 2010 for the 3-Year Agreement are 2.0% and 4.0%, respectively. The Revolving Credit Agreements do not include any other rating triggers, nor do they contain any provisions that could require the posting of collateral.

The Revolving Credit Agreements are used for general corporate purposes and to support Altria Group, Inc.’s commercial paper issuances. The Revolving Credit Agreements require that Altria Group, Inc. maintain (i) a ratio of debt to consolidated EBITDA of not more than 3.0 to 1.0 and (ii) a ratio of consolidated EBITDA to consolidated interest expense of not less than 4.0 to 1.0, each calculated as of the end of the applicable quarter on a rolling four-quarters basis. At December 31, 2010, the ratios of debt to consolidated EBITDA and consolidated EBITDA to consolidated interest expense, calculated in accordance with the Revolving Credit Agreements, were 1.7 to 1.0 and 6.2 to 1.0, respectively. Altria Group, Inc. expects to continue to meet its covenants associated with the Revolving Credit Agreements. The terms “consolidated EBITDA,” “debt” and “consolidated interest expense” as defined in the Revolving Credit Agreements include certain adjustments.

 

29

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Any commercial paper issued by Altria Group, Inc. and borrowings under the Revolving Credit Agreements are fully and unconditionally guaranteed by PM USA (see Note 22. Condensed Consolidating Financial Information).

Note 11. Long-Term Debt:

At December 31, 2010 and 2009, Altria Group, Inc.’s long-term debt, all of which was consumer products debt, consisted of the following:

 

		2010				2009
		(in millions)
Notes, 4.125% to 10.20% (average coupon interest rate 8.8%), due through 2039		$	12,152			$	11,918
Debenture, 7.75% due 2027			42				42
			12,194				11,960
Less current portion of long-term debt							(775	)
		$	12,194			$	11,185

Aggregate maturities of long-term debt are as follows:

 

		Altria Group, Inc.				UST				Total Long-Term Debt
		(in millions)
2012						$	600			$	600
2013		$	1,459								1,459
2014			525								525
2015			1,000								1,000
2018			3,100				300				3,400
2019			2,200								2,200
Thereafter			3,042								3,042

The aggregate fair value, based substantially on readily available quoted market prices, of Altria Group, Inc.’s long-term debt at December 31, 2010, was $15.5 billion, as compared with its carrying value of $12.2 billion. The aggregate fair value, based substantially on readily available quoted market prices, of Altria Group, Inc.’s long-term debt at December 31, 2009, was $14.4 billion, as compared with its carrying value of $12.0 billion.

During 2010, 2009 and 2008 the following long-term debt transactions occurred:

Altria Group, Inc. Senior Notes:

August 2010 and June 2010 Issuances

 

•

$1.0 billion (aggregate principal amount) of 4.125% senior unsecured long-term notes due September 2015, which consisted of $800 million issued in June 2010 and $200 million issued in August 2010. Interest on each issuance will be paid semiannually, with interest accruing from June 2010.

 

30

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

February 2009 Issuance

 

•

$525 million at 7.75%, due 2014, interest payable semi-annually;

 

•

$2.2 billion at 9.25%, due 2019, interest payable semi-annually; and

 

•

$1.5 billion at 10.20%, due 2039, interest payable semi-annually.

December 2008 Issuance

 

•

$775 million at 7.125%, due 2010, interest payable semi-annually. In June 2010, these notes matured and were repaid.

November 2008 Issuance

 

•

$1.4 billion at 8.50%, due 2013, interest payable semi-annually;

 

•

$3.1 billion at 9.70%, due 2018, interest payable semi-annually; and

 

•

$1.5 billion at 9.95%, due 2038, interest payable semi-annually.

The net proceeds from the issuances of senior unsecured notes in 2010 were added to Altria Group, Inc.’s general funds, which may be used to meet working capital requirements, refinance debt or for general corporate purposes. The net proceeds from the issuances of senior unsecured long-term notes in November 2008 and December 2008 were used along with borrowings under the Bridge Facility (see Note 3. UST Acquisition) to fund the acquisition of UST. The net proceeds from the issuance of senior unsecured long-term notes in February 2009, along with available cash, were used to prepay all of the outstanding borrowings under the Bridge Facility.

The notes are Altria Group, Inc.’s senior unsecured obligations and rank equally in right of payment with all of Altria Group, Inc.’s existing and future senior unsecured indebtedness. Upon the occurrence of both (i) a change of control of Altria Group, Inc. and (ii) the notes ceasing to be rated investment grade by each of Moody’s, Standard & Poor’s and Fitch Ratings Ltd. within a specified time period, Altria Group, Inc. will be required to make an offer to purchase the notes at a price equal to 101% of the aggregate principal amount of such notes, plus accrued and unpaid interest to the date of repurchase as and to the extent set forth in the terms of the notes. With respect to the senior unsecured long-term notes from the February 2009 and November 2008 issuances, the interest rate payable on each series of notes is subject to adjustment from time to time if the rating assigned to the notes of such series by Moody’s or Standard & Poor’s is downgraded (or subsequently upgraded) as and to the extent set forth in the terms of the notes.

The obligations of Altria Group, Inc. under the notes are fully and unconditionally guaranteed by PM USA (see Note 22. Condensed Consolidating Financial Information).

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

UST Senior Notes:

As discussed in Note 3. UST Acquisition, the purchase price for the acquisition of UST included approximately $1.3 billion of UST debt, of which $900 million was long-term debt and $240 million was current portion of long-term debt. At December 31, 2010 and 2009, UST’s senior notes consisted of the following:

 

•

$600 million at 6.625%, due 2012, interest payable semi-annually; and

 

•

$300 million at 5.75%, due 2018, interest payable semi-annually.

UST senior notes of $200 million and $40 million matured and were repaid in June 2009.

The UST notes are senior unsecured obligations and rank equally in right of payment with all of UST’s existing and future senior unsecured and unsubordinated indebtedness. With respect to the $300 million senior notes, upon the occurrence of both (i) a change of control of UST and (ii) these notes ceasing to be rated investment grade by each of Moody’s and Standard & Poor’s within a specified time period, UST would be required to make an offer to purchase these notes at a price equal to 101% of the aggregate principal amount of such series, plus accrued and unpaid interest to the date of repurchase as and to the extent set forth in the terms of these notes.

Repayment of Other Consumer Products Debt:

A subsidiary of PM USA repaid a $135 million term loan that matured in May 2009.

Repayment of Financial Services Debt:

Financial services debt of $500 million matured and was repaid in July 2009.

Tender Offer for Altria Group, Inc. Notes:

In connection with the spin-off of PMI, in the first quarter of 2008, Altria Group, Inc. and its subsidiary, Altria Finance (Cayman Islands) Ltd. (dissolved in December 2009), completed tender offers to purchase for cash $2.3 billion of notes and debentures denominated in U.S. dollars, and €373 million in euro-denominated bonds, equivalent to $568 million in U.S. dollars.

As a result of the tender offers and consent solicitations, Altria Group, Inc. recorded a pre-tax loss of $393 million, which included tender and consent fees of $371 million, on the early extinguishment of debt in the first quarter of 2008.

 

32

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 12. Capital Stock:

Shares of authorized common stock are 12 billion; issued, repurchased and outstanding shares were as follows:

 

		Shares Issued				Shares Repurchased				Shares Outstanding
Balances, December 31, 2007			2,805,961,317				(698,284,555	)			2,107,676,762
Exercise of stock options and issuance of other stock awards							7,144,822				7,144,822
Repurchased							(53,450,000	)			(53,450,000	)
Balances, December 31, 2008			2,805,961,317				(744,589,733	)			2,061,371,584
Exercise of stock options and issuance of other stock awards							14,657,060				14,657,060
Balances, December 31, 2009			2,805,961,317				(729,932,673	)			2,076,028,644
Exercise of stock options and issuance of other stock awards							12,711,022				12,711,022
Balances, December 31, 2010			2,805,961,317				(717,221,651	)			2,088,739,666

At December 31, 2010, 54,955,609 shares of common stock were reserved for stock options and other stock awards under Altria Group, Inc.’s stock plans, and 10 million shares of Serial Preferred Stock, $1.00 par value, were authorized. No shares of Serial Preferred Stock have been issued.

 

33

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 13. Stock Plans:

In 2010, Altria Group, Inc.’s Board of Directors adopted, and the stockholders approved, the Altria Group, Inc. 2010 Performance Incentive Plan (the “2010 Plan”). The 2010 Plan replaced the 2005 Performance Incentive Plan when it expired on May 1, 2010. Under the 2010 Plan, Altria Group, Inc. may grant to eligible employees stock options, stock appreciation rights, restricted stock, restricted and deferred stock units, and other stock-based awards, as well as cash-based annual and long-term incentive awards. Up to 50 million shares of common stock may be issued under the 2010 Plan. In addition, Altria Group, Inc. may grant up to one million shares of common stock to members of the Board of Directors who are not employees of Altria Group, Inc. under the Stock Compensation Plan for Non-Employee Directors (the “Directors Plan”). Shares available to be granted under the 2010 Plan and the Directors Plan at December 31, 2010, were 49,997,960 and 716,708, respectively.

Certain modifications were made to stock options, restricted stock and deferred stock as a result of the PMI spin-off in 2008, as discussed in Note 1. Background and Basis of Presentation.

Altria Group, Inc. has not granted stock options to employees since 2002.

Stock Option Plan

In connection with the PMI spin-off, Altria Group, Inc. employee stock options were modified through the issuance of PMI employee stock options and the adjustment of the stock option exercise prices for the Altria Group, Inc. awards. For each employee stock option outstanding, the aggregate intrinsic value of the option immediately after the spin-off was not greater than the aggregate intrinsic value of the option immediately before the spin-off. Because the Black-Scholes fair values of the awards immediately before and immediately after the spin-off were equivalent, no incremental compensation expense was recorded as a result of the modifications of the Altria Group, Inc. awards.

 

34

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Altria Group, Inc. stock option activity was as follows for the year ended December 31, 2010:

 

		Shares Subject to Option				Weighted Average Exercise Price				Average Remaining Contractual Term				Aggregate Intrinsic Value
Balance at December 31, 2009			12,401,903			$	10.74
Options exercised			(9,707,570	)			10.69
Options canceled			(18,740	)			7.53
Balance/Exercisable at December 31, 2010			2,675,593				10.95				3 months			$	37 million

The aggregate intrinsic value shown in the table above was based on the December 31, 2010 closing price for Altria Group, Inc.’s common stock of $24.62. The total intrinsic value of options exercised during the years ended December 31, 2010, 2009 and 2008 was $110 million, $87 million and $119 million, respectively.

Restricted and Deferred Stock

Altria Group, Inc. may grant shares of restricted stock and deferred stock to eligible employees. These shares include nonforfeitable rights to dividends or dividend equivalents during the vesting period but may not be sold, assigned, pledged or otherwise encumbered. Such shares are subject to forfeiture if certain employment conditions are not met. Restricted and deferred stock generally vests on the third anniversary of the grant date.

The fair value of the shares of restricted stock and deferred stock at the date of grant is amortized to expense ratably over the restriction period, which is generally three years. Altria Group, Inc. recorded pre-tax compensation expense related to restricted stock and deferred stock granted to employees of its continuing operations for the years ended December 31, 2010, 2009 and 2008 of $44 million, $61 million and $38 million, respectively. The deferred tax benefit recorded related to this compensation expense was $16 million, $24 million and $15 million for the years ended December 31, 2010, 2009 and 2008, respectively. The unamortized compensation expense related to Altria Group, Inc. restricted stock and deferred stock was $74 million at December 31, 2010 and is expected to be recognized over a weighted-average period of approximately 2 years.

 

35

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Altria Group, Inc. restricted stock and deferred stock activity was as follows for the year ended December 31, 2010:

 

		Number of Shares				Weighted-Average Grant Date Fair Value Per Share
Balance at December 31, 2009			8,215,081			$	28.88
Granted			2,646,080				19.90
Vested			(1,694,518	)			64.34
Forfeited			(401,045	)			20.13
Balance at December 31, 2010			8,765,598				19.72

The grant price information for restricted stock and deferred stock awarded prior to January 30, 2008 reflects historical market prices which are not adjusted to reflect the PMI spin-off.

The weighted-average grant date fair value of Altria Group, Inc. restricted stock and deferred stock granted during the years ended December 31, 2010, 2009 and 2008 was $53 million, $95 million and $56 million, respectively, or $19.90, $16.71 and $22.98 per restricted or deferred share, respectively. The total fair value of Altria Group, Inc. restricted stock and deferred stock vested during the years ended December 31, 2010, 2009 and 2008 was $33 million, $46 million and $140 million, respectively.

 

36

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 14. Earnings per Share:

Basic and diluted earnings per share (“EPS”) from continuing and discontinued operations were calculated using the following:

 

		For the Years Ended December 31,
		2010				2009				2008
		(in millions)
Earnings from continuing operations		$	3,905			$	3,206			$	3,090
Earnings from discontinued operations											1,840
Net earnings attributable to Altria Group, Inc.			3,905				3,206				4,930
Less: Distributed and undistributed earnings attributable to unvested restricted and deferred shares			(15	)			(11	)			(13	)
Earnings for basic EPS			3,890				3,195				4,917
Add: Undistributed earnings attributable to unvested restricted and deferred shares			3				2				4
Less: Undistributed earnings reallocated to unvested restricted and deferred shares			(3	)			(2	)			(4	)
Earnings for diluted EPS		$	3,890			$	3,195			$	4,917
Weighted-average shares for basic EPS			2,077				2,066				2,075
Add: Incremental shares from stock options			2				5				9
Weighted-average shares for diluted EPS			2,079				2,071				2,084

For the 2010 and 2008 computations, there were no antidilutive stock options. For the 2009 computation, 0.7 million stock options were excluded from the calculation of weighted-average shares for diluted EPS because their effects were antidilutive.

 

37

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 15. Accumulated Other Comprehensive Earnings (Losses):

The following table sets forth the changes in each component of accumulated other comprehensive earnings (losses), net of income taxes, attributable to Altria Group, Inc.:

 

		Currency Translation Adjustments				Changes in Net Loss and Prior Service Cost				Changes in Fair Value of Derivatives Accounted for as Hedges				Ownership of SABMiller’s Other Comprehensive Earnings (Losses)				Accumulated Other Comprehensive Earnings (Losses)
		(in millions)
Balances, December 31, 2007		$	728			$	(960	)		$	(5	)		$	348			$	111
Period Change			233				(1,385	)			(177	)			(308	)			(1,637	)
Spin-off of PMI			(961	)			124				182								(655	)
Balances, December 31, 2008			—				(2,221	)			—				40				(2,181	)
Period Change			3				375								242				620
Balances, December 31, 2009			3				(1,846	)			—				282				(1,561	)
Period Change			1				35								41				77
Balances, December 31, 2010		$	4			$	(1,811	)		$	—			$	323			$	(1,484	)

 

38

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 16. Income Taxes:

Earnings from continuing operations before income taxes, and provision for income taxes consisted of the following for the years ended December 31, 2010, 2009 and 2008:

 

		2010				2009				2008
		(in millions)
Earnings from continuing operations before income taxes:
United States		$	5,709			$	4,868			$	4,789
Outside United States			14				9
Total		$	5,723			$	4,877			$	4,789
Provision for income taxes:
Current:
Federal		$	1,430			$	1,512			$	1,486
State and local			258				111				351
Outside United States			4				3
			1,692				1,626				1,837
Deferred:
Federal			120				(14	)			(95	)
State and local			4				57				(43	)
			124				43				(138	)
Total provision for income taxes		$	1,816			$	1,669			$	1,699

Altria Group, Inc.’s U.S. subsidiaries join in the filing of a U.S. federal consolidated income tax return. The U.S. federal statute of limitations remains open for the year 2004 and forward, with years 2004 to 2006 currently under examination by the IRS as part of a routine audit conducted in the ordinary course of business. State jurisdictions have statutes of limitations generally ranging from 3 to 5 years. Certain of Altria Group, Inc.’s state tax returns are currently under examination by various states as part of routine audits conducted in the ordinary course of business.

A reconciliation of the beginning and ending amount of unrecognized tax benefits for the years ended December 31, 2010, 2009 and 2008 was as follows:

 

39

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

		2010				2009				2008
		(in millions)
Balance at beginning of year		$	601			$	669			$	615
Additions based on tax positions related to the current year			21				15				50
Additions for tax positions of prior years			30				34				70
Reductions for tax positions due to lapse of statutes of limitations			(58	)			(22	)
Reductions for tax positions of prior years			(164	)			(87	)			(10	)
Settlements			(31	)			(8	)			(2	)
Reduction of state and foreign unrecognized tax benefits due to PMI spin-off											(54	)
Balance at end of year		$	399			$	601			$	669

Unrecognized tax benefits and Altria Group, Inc.’s consolidated liability for tax contingencies at December 31, 2010 and 2009, were as follows:

 

		2010				2009
		(in millions)
Unrecognized tax benefits - Altria Group, Inc.		$	220			$	283
Unrecognized tax benefits - Kraft			101				198
Unrecognized tax benefits - PMI			78				120
Unrecognized tax benefits			399				601
Accrued interest and penalties			261				327
Tax credits and other indirect benefits			(85	)			(100	)
Liability for tax contingencies		$	575			$	828

The amount of unrecognized tax benefits that, if recognized, would impact the effective tax rate at December 31, 2010 was $360 million, along with $39 million affecting deferred taxes. However, the impact on net earnings from those unrecognized tax benefits that if recognized at December 31, 2010 would be $181 million, as a result of receivables from Altria Group, Inc.’s former subsidiaries Kraft and PMI of $101 million and $78 million, respectively, discussed below. The amount of unrecognized tax benefits that, if recognized, would impact the effective tax rate at December 31, 2009 was $548 million, along with $53 million affecting deferred taxes. However, the impact on net earnings from those unrecognized tax benefits that if recognized at December 31, 2009 would be $230 million, as a result of receivables from Kraft and PMI of $198 million and $120 million, respectively, discussed below.

Under the Tax Sharing Agreements entered into in connection with the spin-offs between Altria Group, Inc. and its former subsidiaries – Kraft and PMI, Kraft and PMI are responsible for their respective pre-spin-off tax obligations. Altria Group, Inc., however, remains severally liable for Kraft’s and PMI’s pre-spin-off federal tax obligations pursuant to regulations governing federal consolidated income tax returns. As a result, at December 31, 2010, Altria Group, Inc. continues to include the pre-spin-off federal income tax reserves of Kraft and PMI of $101 million and $78 million, respectively, in its liability for uncertain tax positions, and also includes corresponding receivables from Kraft and PMI of $101 million and $78 million, respectively, in other assets.

 

40

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

As discussed in Note 21. Contingencies, Altria Group, Inc. and the IRS executed a closing agreement during the second quarter of 2010 in connection with the IRS’s examination of Altria Group, Inc.’s consolidated federal income tax returns for the years 2000-2003, which resolved various tax matters for Altria Group, Inc. and its subsidiaries, including its former subsidiaries - Kraft and PMI. As a result of the closing agreement, Altria Group, Inc. paid the IRS approximately $945 million of tax and associated interest during the third quarter of 2010 with respect to certain PMCC leveraged lease transactions, referred to by the IRS as lease-in/lease-out (“LILO”) and sale-in/lease-out (“SILO”) transactions, entered into during the 1996-2003 years. Altria Group, Inc. intends to file a claim for refund of approximately $945 million in the first quarter of 2011. If the IRS disallows the claim, as anticipated, Altria Group, Inc. intends to commence litigation in federal court. Because Altria Group, Inc. intends to file a claim for refund, the payment of approximately $945 million is included in other assets on the consolidated balance sheet of Altria Group, Inc. at December 31, 2010 and has not been included in the supplemental disclosure of cash paid for income taxes on the consolidated statement of cash flows for the year ended December 31, 2010. Also, as a result of this closing agreement, in the second quarter of 2010, Altria Group, Inc. recorded (i) a $47 million income tax benefit primarily attributable to the reversal of tax reserves and associated interest related to Altria Group, Inc. and its current subsidiaries; and (ii) an income tax benefit of $169 million attributable to the reversal of federal income tax reserves and associated interest related to the resolution of certain Kraft and PMI tax matters.

In the third quarter of 2009, the IRS, Kraft, and Altria Group, Inc. (as former parent of, and as agent for, Kraft) executed a closing agreement that resolved certain Kraft tax matters arising out of the 2000-2003 IRS audit of Altria Group, Inc. As a result of this closing agreement, in the third quarter of 2009, Altria Group, Inc. recorded an income tax benefit of $88 million attributable to the reversal of federal income tax reserves and associated interest related to the resolution of certain Kraft tax matters.

The tax benefits of $169 million and $88 million for the years ended December 31, 2010 and 2009, respectively, were offset by a reduction to the corresponding receivables from Kraft and PMI, which were recorded as reductions to operating income on Altria Group, Inc.’s consolidated statements of earnings. As a result, there was no impact on Altria Group, Inc.’s net earnings associated with the resolution of the Kraft and PMI tax matters.

Altria Group, Inc. recognizes accrued interest and penalties associated with uncertain tax positions as part of the tax provision. As of December 31, 2010, Altria Group, Inc. had $261 million of accrued interest and penalties, of which approximately $32 million and $19 million related to Kraft and PMI, respectively, for which Kraft and PMI are responsible under their respective Tax Sharing Agreements. The receivables from Kraft and PMI are included in other assets. As of December 31, 2009, Altria Group, Inc. had $327 million of accrued interest and penalties, of which approximately $79 million and $39 million related to Kraft and PMI, respectively.

For the years ended December 31, 2010, 2009 and 2008, Altria Group, Inc. recognized in its consolidated statements of earnings $(69) million, $3 million and $41 million, respectively, of interest (income) expense associated with uncertain tax positions, which primarily relates to current year interest expense accruals offset by reversals due to resolution of tax matters.

It is reasonably possible that within the next 12 months certain examinations will be resolved, which could result in a decrease in unrecognized tax benefits and interest of approximately $33 million.

 

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NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

The effective income tax rate on pre-tax earnings from continuing operations differed from the U.S. federal statutory rate for the following reasons for the years ended December 31, 2010, 2009 and 2008:

 

		2010				2009				2008
U.S. federal statutory rate			35.0	%			35.0	%			35.0	%
Increase (decrease) resulting from:
State and local income taxes, net of federal tax benefit			2.9				2.7				4.2
Reversal of tax reserves no longer required			(2.7	)			(1.7	)
Domestic manufacturing deduction			(2.4	)			(1.5	)			(1.6	)
SABMiller dividend benefit			(2.3	)			(2.4	)			(2.1	)
Other			1.2				2.1
Effective tax rate			31.7	%			34.2	%			35.5	%

The tax provision in 2010 includes tax benefits of $216 million from the reversal of tax reserves and associated interest resulting from the execution of the 2010 closing agreement with the IRS discussed above. The tax provision in 2010 also includes tax benefits of $64 million from the reversal of tax reserves and associated interest following the resolution of several state audits and the expiration of statutes of limitations. The tax provision in 2009 includes tax benefits of $88 million from the reversal of tax reserves and associated interest resulting from the execution of the 2009 closing agreement with the IRS discussed above. The tax provision in 2009 also includes a benefit of $53 million from the utilization of net operating losses in the third quarter. The tax provision in 2008 includes net tax benefits of $58 million primarily from the reversal of tax accruals no longer required in the fourth quarter.

 

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NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

The tax effects of temporary differences that gave rise to consumer products deferred income tax assets and liabilities consisted of the following at December 31, 2010 and 2009:

 

		2010				2009
		(in millions)
Deferred income tax assets:
Accrued postretirement and postemployment benefits		$	1,045			$	1,126
Settlement charges			1,393				1,428
Accrued pension costs			395				434
Net operating losses and tax credit carryforwards			87				113
Total deferred income tax assets			2,920				3,101
Deferred income tax liabilities:
Property, plant and equipment			(425	)			(503	)
Intangible assets			(3,655	)			(3,579	)
Investment in SABMiller			(1,758	)			(1,632	)
Other			(296	)			(164	)
Total deferred income tax liabilities			(6,134	)			(5,878	)
Valuation allowances			(39	)			(76	)
Net deferred income tax liabilities		$	(3,253	)		$	(2,853	)

Financial services deferred income tax liabilities are primarily attributable to temporary differences relating to net investments in finance leases.

At December 31, 2010, Altria Group, Inc. had estimated state tax net operating losses of $1,212 million that, if unutilized, will expire in 2011 through 2030 and state tax credit carryforwards of $82 million which, if unutilized, will expire in 2011 through 2017. A valuation allowance is recorded against certain state net operating losses and state tax credit carryforwards due to uncertainty regarding their utilization.

 

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Note 17. Segment Reporting:

The products of Altria Group, Inc.’s consumer products subsidiaries include cigarettes manufactured and sold by PM USA, smokeless products manufactured and sold by or on behalf of USSTC and PM USA, machine-made large cigars and pipe tobacco manufactured and sold by Middleton, and wine produced and distributed by Ste. Michelle. Another subsidiary of Altria Group, Inc., PMCC, maintains a portfolio of leveraged and direct finance leases. The products and services of these subsidiaries constitute Altria Group, Inc.’s reportable segments of cigarettes, smokeless products, cigars, wine and financial services.

Altria Group, Inc.’s chief operating decision maker reviews operating companies income to evaluate segment performance and allocate resources. Operating companies income for the segments excludes general corporate expenses and amortization of intangibles. Interest and other debt expense, net (consumer products), and provision for income taxes are centrally managed at the corporate level and, accordingly, such items are not presented by segment since they are excluded from the measure of segment profitability reviewed by Altria Group, Inc.’s chief operating decision maker. Information about total assets by segment is not disclosed because such information is not reported to or used by Altria Group, Inc.’s chief operating decision maker. Segment goodwill and other intangible assets, net, are disclosed in Note 5. Goodwill and Other Intangible Assets, net. The accounting policies of the segments are the same as those described in Note 2. Summary of Significant Accounting Policies.

 

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NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Segment data were as follows:
		For the Years Ended December 31,
		2010				2009				2008
		(in millions)
Net revenues:
Cigarettes		$	21,631			$	20,919			$	18,753
Smokeless products			1,552				1,366
Cigars			560				520				387
Wine			459				403
Financial services			161				348				216
Net revenues		$	24,363			$	23,556			$	19,356
Earnings from continuing operations before income taxes:
Operating companies income:
Cigarettes		$	5,451			$	5,055			$	4,866
Smokeless products			803				381
Cigars			167				176				164
Wine			61				43
Financial services			157				270				71
Amortization of intangibles			(20	)			(20	)			(7	)
Gain on sale of corporate headquarters building											404
General corporate expenses			(216	)			(204	)			(266	)
Reduction of Kraft and PMI tax-related receivables			(169	)			(88	)
UST acquisition-related transaction costs							(60	)
Corporate asset impairment and exit costs			(6	)			(91	)			(350	)
Operating income			6,228				5,462				4,882
Interest and other debt expense, net			(1,133	)			(1,185	)			(167	)
Loss on early extinguishment of debt											(393	)
Earnings from equity investment in SABMiller			628				600				467
Earnings from continuing operations before income taxes		$	5,723			$	4,877			$	4,789

 

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NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

PM USA, USSTC and Middleton’s largest customer, McLane Company, Inc., accounted for approximately 27%, 26% and 27% of Altria Group, Inc.’s consolidated net revenues for the years ended December 31, 2010, 2009 and 2008, respectively. These net revenues were reported in the cigarettes, smokeless products and cigars segments. Sales to three distributors accounted for approximately 54% and 64% of net revenues for the wine segment for the years ended December 31, 2010 and 2009, respectively.

Items affecting the comparability of net revenues and operating companies income for the segments were as follows:

 

•

UST Acquisition – In January 2009, Altria Group, Inc. acquired UST, the results of which are reflected in the smokeless products and wine segments. See Note 3. UST Acquisition.

 

•

Asset Impairment, Exit, Implementation and Integration Costs – See Note 6. Asset Impairment, Exit, Implementation and Integration Costs, for a breakdown of these costs by segment.

 

•

Sales to PMI – Subsequent to the PMI spin-off, PM USA recorded net revenues of $298 million, from contract volume manufactured for PMI under an agreement that terminated in the fourth quarter of 2008. For periods prior to the PMI spin-off, PM USA did not record contract volume manufactured for PMI in net revenues, but recorded the related profit, which was immaterial, for the year ended December 31, 2008, in marketing, administration and research costs on Altria Group, Inc.’s consolidated statements of earnings. These amounts are reflected in the cigarettes segment.

 

•

PMCC Allowance for Losses – During 2009, PMCC increased its allowance for losses by $15 million based on management’s assessment of its portfolio including its exposure to GM. PMCC increased its allowance for losses by $100 million during 2008, primarily as a result of credit rating downgrades of certain lessees and financial market conditions. See Note 9. Finance Assets, net.

 

		For the Years Ended December 31,
		2010				2009				2008
		(in millions)
Depreciation expense:
Cigarettes		$	164			$	168			$	182
Smokeless products			32				41
Cigars			3				2				1
Wine			23				22
Corporate			34				38				25
Total depreciation expense		$	256			$	271			$	208
Capital expenditures:
Cigarettes		$	54			$	147			$	220
Smokeless products			19				18
Cigars			16				4				7
Wine			22				24
Corporate			57				80				14
Total capital expenditures		$	168			$	273			$	241

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 18. Benefit Plans:

Subsidiaries of Altria Group, Inc. sponsor noncontributory defined benefit pension plans covering substantially all employees of Altria Group, Inc. In certain subsidiaries, employees hired on or after a date specific to their employee group instead are eligible to participate in an enhanced defined contribution plan. This transition for new hires occurred from October 1, 2006 to January 1, 2008. In addition, effective January 1, 2010, certain employees of UST and Middleton who were participants in noncontributory defined benefit pension plans ceased to earn additional benefit service under those plans and became eligible to participate in an enhanced defined contribution plan. Altria Group, Inc. and its subsidiaries also provide health care and other benefits to the majority of retired employees.

The plan assets and benefit obligations of Altria Group, Inc.’s pension plans and the benefit obligations of Altria Group, Inc.’s postretirement plans are measured at December 31 of each year.

Pension Plans

Obligations and Funded Status

The projected benefit obligations, plan assets and funded status of Altria Group, Inc.’s pension plans at December 31, 2010 and 2009, were as follows:

 

		2010				2009
		(in millions)
Projected benefit obligation at beginning of year		$	6,075			$	5,342
Service cost			80				96
Interest cost			356				349
Benefits paid			(375	)			(460	)
Actuarial losses			287				105
Acquisition							634
Termination, settlement and curtailment							9
Other			16
Projected benefit obligation at end of year			6,439				6,075
Fair value of plan assets at beginning of year			4,870				3,929
Actual return on plan assets			639				945
Employer contributions			30				37
Funding of UST plans			26				134
Benefits paid			(375	)			(460	)
Actuarial gains			28				2
Acquisition							283
Fair value of plan assets at end of year			5,218				4,870
Net pension liability recognized at December 31		$	1,221			$	1,205

 

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NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

The net pension liability recognized in Altria Group, Inc.’s consolidated balance sheets at December 31, 2010 and 2009, was as follows:

 

		2010				2009
		(in millions)
Other accrued liabilities		$	30			$	48
Accrued pension costs			1,191				1,157
		$	1,221			$	1,205

The accumulated benefit obligation, which represents benefits earned to date, for the pension plans was $6.1 billion and $5.7 billion at December 31, 2010 and 2009, respectively.

At December 31, 2010 and 2009, the accumulated benefit obligations were in excess of plan assets for all pension plans.

The following assumptions were used to determine Altria Group, Inc.’s benefit obligations under the plans at December 31:

 

		2010				2009
Discount rate			5.5	%			5.9	%
Rate of compensation increase			4.0				4.5

The discount rates for Altria Group, Inc.’s plans were developed from a model portfolio of high-quality corporate bonds with durations that match the expected future cash flows of the benefit obligations.

Components of Net Periodic Benefit Cost

Net periodic pension cost consisted of the following for the years ended December 31, 2010, 2009 and 2008:

 

		2010				2009				2008
		(in millions)
Service cost		$	80			$	96			$	99
Interest cost			356				349				304
Expected return on plan assets			(421	)			(429	)			(428	)
Amortization:
Net loss			126				119				59
Prior service cost			13				12				12
Termination, settlement and curtailment							12				97
Net periodic pension cost		$	154			$	159			$	143

During 2009 and 2008, termination, settlement and curtailment shown in the table above primarily reflect termination benefits related to Altria Group, Inc.’s restructuring programs. In 2009 these costs were partially offset by curtailment gains related to the restructuring of UST’s operations subsequent to the acquisition. For more information on Altria Group, Inc.’s restructuring programs, see Note 6. Asset Impairment, Exit, Implementation and Integration Costs.

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

The amounts included in termination, settlement and curtailment in the table above for the years ended December 31, 2009 and 2008 were comprised of the following changes:

 

		2009				2008
		(in millions)
Benefit obligation		$	9			$	50
Other comprehensive earnings/losses:
Net losses			3				45
Prior service cost							2
		$	12			$	97

For the pension plans, the estimated net loss and prior service cost that are expected to be amortized from accumulated other comprehensive losses into net periodic benefit cost during 2011 are $172 million and $14 million, respectively.

The following weighted-average assumptions were used to determine Altria Group, Inc.’s net pension cost for the years ended December 31:

 

		2010				2009				2008
Discount rate			5.9	%			6.1	%			6.2	%
Expected rate of return on plan assets			8.0				8.0				8.0
Rate of compensation increase			4.5				4.5				4.5

Altria Group, Inc. sponsors deferred profit-sharing plans covering certain salaried, non-union and union employees. Contributions and costs are determined generally as a percentage of pre-tax earnings, as defined by the plans. Amounts charged to expense for these defined contribution plans totaled $108 million, $106 million and $128 million in 2010, 2009 and 2008, respectively.

Plan Assets

Altria Group, Inc.’s pension plans investment strategy is based on an expectation that equity securities will outperform debt securities over the long term. Altria Group, Inc. implements the investment strategy in a prudent and risk-controlled manner, consistent with the fiduciary requirements of the Employee Retirement Income Security Act of 1974, by investing retirement plan assets in a well-diversified mix of equities, fixed income and other securities that reflects the impact of the demographic mix of plan participants on the benefit obligation using a target asset allocation between equity securities and fixed income investments of 55%/45%. Accordingly, the composition of Altria Group, Inc.’s plan assets at December 31, 2010 was broadly characterized as an allocation between equity securities (58%), corporate bonds (20%), U.S. Treasury and Foreign Government securities (16%) and all other types of investments (6%). Virtually all pension assets can be used to make monthly benefit payments.

Altria Group, Inc.’s pension plans investment strategy is accomplished by investing in U.S. and international equity commingled funds which are intended to mirror indices such as the Standard & Poor’s 500 Index, Russell Small Cap Completeness Index, Morgan Stanley Capital International (“MSCI”) Europe, Australasia, Far East (“EAFE”) Index, and MSCI Emerging Markets Index. Altria Group, Inc.’s pension plans also invest in actively managed international equity securities of large, mid, and small cap companies located in the developed markets of Europe, Australasia, and the Far East, and actively managed long duration fixed income

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

securities that primarily include investment grade corporate bonds of companies from diversified industries, U.S. Treasuries and Treasury Inflation Protected Securities. The below investment grade securities represent 11% of the fixed income holdings or 5% of total plan assets at December 31, 2010. The allocation to emerging markets represents 4% of the equity holdings or 2% of total plan assets at December 31, 2010. The allocation to real estate and private equity investments is immaterial.

Altria Group, Inc.’s pension plans risk management practices include ongoing monitoring of the asset allocation, investment performance, investment managers’ compliance with their investment guidelines, periodic rebalancing between equity and debt asset classes and annual actuarial re-measurement of plan liabilities.

Altria Group, Inc.’s expected rate of return on pension plan assets is determined by the plan assets’ historical long-term investment performance, current asset allocation and estimates of future long-term returns by asset class. The forward-looking estimates are consistent with the overall long-term averages exhibited by returns on equity and fixed income securities.

The fair values of Altria Group, Inc.’s pension plan assets by asset category are as follows:

 

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NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Investments at Fair Value as of December 31, 2010

 

(in millions)		Level 1				Level 2				Level 3				Totals
Common/collective trusts:
U.S. large cap		$	—			$	1,431			$	—			$	1,431
U.S. small cap							533								533
International developed markets							177								177
International emerging markets							123								123
Long duration fixed income							479								479
Other							125								125
U.S. and foreign government securities or their agencies:
U.S. government and agencies							440								440
U.S. municipal bonds							32								32
Foreign government and agencies							308								308
Corporate debt instruments:
Above investment grade							488								488
Below investment grade and no rating							178								178
Common stock:
International equities			542												542
U.S. equities			24												24
Registered investment companies			152				62								214
U.S. and foreign cash and cash equivalents			38				6								44
Asset backed securities							48								48
Other, net			8				11				13				32
Total investments at fair value, net		$	764			$	4,441			$	13			$	5,218

 

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NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Investments at Fair Value as of December 31, 2009

 

(in millions)		Level 1				Level 2				Level 3				Totals
Common/collective trusts:
U.S. large cap		$	—			$	1,557			$	—			$	1,557
U.S. small cap							512								512
International developed markets							164								164
International emerging markets							104								104
Long duration fixed income							427								427
U.S. and foreign government securities or their agencies:
U.S. government and agencies							485								485
U.S. municipal bonds							15								15
Foreign government and agencies							163								163
Corporate debt instruments:
Above investment grade							536								536
Below investment grade and no rating							116								116
Common stock:
International equities			461												461
U.S. equities			23												23
Registered investment companies			139				48								187
U.S. and foreign cash and cash equivalents			38				12								50
Asset backed securities							55								55
Other, net			2				1				12				15
Total investments at fair value, net		$	663			$	4,195			$	12			$	4,870

Level 3 holdings are immaterial to total plan assets at December 31, 2010 and 2009.

For a description of the fair value hierarchy and the three levels of inputs used to measure fair value, see Note 2. Summary of Significant Accounting Policies.

Following is a description of the valuation methodologies used for investments measured at fair value, including the general classification of such investments pursuant to the fair value hierarchy.

Common/Collective Trusts:

Common/collective trusts consist of pools of investments used by institutional investors to obtain exposure to equity and fixed income markets by investing in equity index funds which are intended to mirror indices such as Standard & Poor’s 500 Index, Russell Small Cap Completeness Index, State Street Global Advisor’s Fundamental Index, MSCI EAFE Index,

 

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MSCI Emerging Markets Index, and an actively managed long duration fixed income fund. They are valued on the basis of the relative interest of each participating investor in the fair value of the underlying assets of each of the respective common/collective trusts. The underlying assets are valued based on the net asset value (“NAV”) as provided by the investment account manager and are classified in level 2 of the fair value hierarchy. These common/collective trusts have defined redemption terms which vary from two day prior notice to semi-monthly openings for redemption. There are no other restrictions on redemption at December 31, 2010.

U.S. and Foreign Government Securities:

U.S. and Foreign Government securities consist of investments in Treasury Nominal Bonds and Inflation Protected Securities, investment grade municipal securities and unrated or non-investment grade municipal securities. Government securities, which are traded in a non-active over-the-counter market, are valued at a price which is based on a broker quote, and are classified in level 2 of the fair value hierarchy.

Corporate Debt Instruments:

Corporate debt instruments are valued at a price which is based on a compilation of primarily observable market information or a broker quote in a non-active over-the-counter market, and are classified in level 2 of the fair value hierarchy.

Common Stocks:

Common stocks are valued based on the price of the security as listed on an open active exchange on last trade date, and are classified in level 1 of the fair value hierarchy.

Registered Investment Companies:

Investments in mutual funds sponsored by a registered investment company are valued based on exchange listed prices and are classified in level 1 of the fair value hierarchy. Registered investment company funds which are designed specifically to meet Altria Group, Inc.’s pension plans investment strategies but are not traded on an active market are valued based on the NAV of the underlying securities as provided by the investment account manager on the last business day of the period and are classified in level 2 of the fair value hierarchy. The registered investment company funds measured at NAV have daily liquidity and are not subject to any redemption restrictions at December 31, 2010.

U.S. and Foreign Cash & Cash Equivalents:

Cash and cash equivalents are valued at cost that approximates fair value, and are classified in level 1 of the fair value hierarchy. Cash collateral for forward contracts on U.S. Treasury notes, which approximates fair value, is classified in level 2 of the fair value hierarchy.

Asset Backed Securities:

Asset backed securities are fixed income securities such as mortgage backed securities and auto loans that are collateralized by pools of underlying assets that are unable to be sold individually. They are valued at a price which is based on a compilation of primarily

 

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

observable market information or a broker quote in a non-active, over-the-counter market, and are classified in level 2 of the fair value hierarchy.

Cash Flows

Altria Group, Inc. makes contributions to the extent that they are tax deductible, and to pay benefits that relate to plans for salaried employees that cannot be funded under IRS regulations. On January 7, 2011, Altria Group, Inc. made a voluntary $200 million contribution to its pension plans. Currently, Altria Group, Inc. anticipates making additional employer contributions of approximately $30 million to $50 million in 2011 to its pension plans, based on current tax law. However, these estimates are subject to change as a result of changes in tax and other benefit laws, as well as asset performance significantly above or below the assumed long-term rate of return on pension assets, or changes in interest rates.

The estimated future benefit payments from the Altria Group, Inc. pension plans at December 31, 2010, were as follows:

 

		(in millions)
2011		$	379
2012			386
2013			393
2014			414
2015			403
2016-2020			2,144

Postretirement Benefit Plans

Net postretirement health care costs consisted of the following for the years ended December 31, 2010, 2009 and 2008:

 

		2010				2009				2008
		(in millions)
Service cost		$	29			$	33			$	41
Interest cost			135				125				130
Amortization:
Net loss			32				36				31
Prior service credit			(21	)			(9	)			(9	)
Termination and curtailment							40				23
Net postretirement health care costs		$	175			$	225			$	216

During 2009 and 2008, termination and curtailment shown in the table above primarily reflects termination benefits and curtailment losses related to Altria Group, Inc.’s restructuring programs, including the restructuring of UST’s operations subsequent to the acquisition. For further information on Altria Group, Inc.’s restructuring programs, see Note 6. Asset Impairment, Exit, Implementation and Integration Costs.

 

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The amounts included in termination and curtailment shown in the table above for the years ended December 31, 2009 and 2008 were comprised of the following changes:

 

		2009				2008
		(in millions)
Accrued postretirement health care costs		$	40			$	28
Other comprehensive earnings/losses:
Prior service credit							(5	)
		$	40			$	23

For the postretirement benefit plans, the estimated net loss and prior service credit that are expected to be amortized from accumulated other comprehensive losses into net postretirement health care costs during 2011 are $37 million and $(22) million, respectively.

The following assumptions were used to determine Altria Group, Inc.’s net postretirement cost for the years ended December 31:

 

		2010				2009				2008
Discount rate			5.8	%			6.1	%			6.2	%
Health care cost trend rate			7.5				8.0				8.0

Altria Group, Inc.’s postretirement health care plans are not funded. The changes in the accumulated postretirement benefit obligation at December 31, 2010 and 2009, were as follows:

 

		2010				2009
		(in millions)
Accrued postretirement health care costs at beginning of year		$	2,464			$	2,335
Service cost			29				33
Interest cost			135				125
Benefits paid			(118	)			(103	)
Plan amendments			(58	)			(76	)
Assumption changes			124				93
Actuarial gains			(28	)			(68	)
Acquisition							85
Terminations and curtailments							40
Accrued postretirement health care costs at end of year		$	2,548			$	2,464

The current portion of Altria Group, Inc.’s accrued postretirement health care costs of $146 million and $138 million at December 31, 2010 and 2009, respectively, is included in other accrued liabilities on the consolidated balance sheets.

The Patient Protection and Affordable Care Act (“PPACA”), as amended by the Health Care and Education Reconciliation Act of 2010, was signed into law in March 2010. The PPACA mandates health care reforms with staggered effective dates from 2010 to 2018, including the imposition of an excise tax on high cost health care plans effective 2018. The additional accumulated postretirement liability resulting from the PPACA, which is not material to Altria Group, Inc., has been included in Altria Group, Inc.’s accumulated postretirement benefit obligation at December 31, 2010. Given the complexity of the PPACA and the extended time

 

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period during which implementation is expected to occur, further adjustments to Altria Group, Inc.’s accumulated postretirement benefit obligation may be necessary in the future.

The following assumptions were used to determine Altria Group, Inc.’s postretirement benefit obligations at December 31:

 

		2010				2009
Discount rate			5.5	%			5.8	%
Health care cost trend rate assumed for next year			8.0				7.5
Ultimate trend rate			5.0				5.0
Year that the rate reaches the ultimate trend rate			2017				2015

Assumed health care cost trend rates have a significant effect on the amounts reported for the health care plans. A one-percentage-point change in assumed health care cost trend rates would have the following effects as of December 31, 2010:

 

		One-Percentage-Point Increase				One-Percentage-Point Decrease
Effect on total of service and interest cost			12.3	%			(9.9	)%
Effect on postretirement benefit obligation			10.1				(8.2	)

Altria Group, Inc.’s estimated future benefit payments for its postretirement health care plans at December 31, 2010, were as follows:

 

		(in millions)
2011		$	146
2012			153
2013			160
2014			166
2015			170
2016-2020			850

Postemployment Benefit Plans

Altria Group, Inc. sponsors postemployment benefit plans covering substantially all salaried and certain hourly employees. The cost of these plans is charged to expense over the working life of the covered employees. Net postemployment costs consisted of the following for the years ended December 31, 2010, 2009 and 2008:

 

		2010				2009				2008
		(in millions)
Service cost		$	1			$	1			$	2
Interest cost			1				1				2
Amortization of net loss			12				11				9
Other			5				178				240
Net postemployment costs		$	19			$	191			$	253

“Other” postemployment cost shown in the table above for 2009 and 2008 primarily reflects incremental severance costs related to Altria Group, Inc.’s restructuring programs (See Note 6. Asset Impairment, Exit, Implementation and Integration Costs).

 

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For the postemployment benefit plans, the estimated net loss that is expected to be amortized from accumulated other comprehensive losses into net postemployment costs during 2011 is approximately $13 million.

Altria Group, Inc.’s postemployment benefit plans are not funded. The changes in the benefit obligations of the plans at December 31, 2010 and 2009, were as follows:

 

		2010				2009
		(in millions)
Accrued postemployment costs at beginning of year		$	349			$	475
Service cost			1				1
Interest cost			1				1
Benefits paid			(218	)			(338	)
Actuarial losses and assumption changes			13				32
Other			5				178
Accrued postemployment costs at end of year		$	151			$	349

The accrued postemployment costs were determined using a weighted-average discount rate of 3.8% and 5.3% in 2010 and 2009, respectively, an assumed weighted-average ultimate annual turnover rate of 0.5% in 2010 and 2009, assumed compensation cost increases of 4.0% in 2010 and 4.5% in 2009, respectively, and assumed benefits as defined in the respective plans. Postemployment costs arising from actions that offer employees benefits in excess of those specified in the respective plans are charged to expense when incurred.

Comprehensive Earnings/Losses:

The amounts recorded in accumulated other comprehensive losses at December 31, 2010 consisted of the following:

 

		Pensions				Postretirement				Postemployment				Total
		(in millions)
Net losses		$	(2,287	)		$	(647	)		$	(151	)		$	(3,085	)
Prior service (cost) credit			(62	)			182								120
Deferred income taxes			914				180				60				1,154
Amounts recorded in accumulated other comprehensive losses		$	(1,435	)		$	(285	)		$	(91	)		$	(1,811	)

The amounts recorded in accumulated other comprehensive losses at December 31, 2009 consisted of the following:

 

		Pensions				Postretirement				Postemployment				Total
		(in millions)
Net losses		$	(2,372	)		$	(584	)		$	(153	)		$	(3,109	)
Prior service (cost) credit			(59	)			145								86
Deferred income taxes			948				169				60				1,177
Amounts recorded in accumulated other comprehensive losses		$	(1,483	)		$	(270	)		$	(93	)		$	(1,846	)

 

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The movements in other comprehensive earnings/losses during the year ended December 31, 2010 were as follows:

 

		Pensions				Postretirement				Postemployment				Total
		(in millions)
Amounts transferred to earnings as components of net periodic benefit cost:
Amortization:
Net losses		$	126			$	32			$	12			$	170
Prior service cost/credit			13				(21	)							(8	)
Deferred income taxes			(55	)			(4	)			(4	)			(63	)
			84				7				8				99
Other movements during the year:
Net losses			(41	)			(95	)			(10	)			(146	)
Prior service cost/credit			(16	)			58								42
Deferred income taxes			21				15				4				40
			(36	)			(22	)			(6	)			(64	)
Total movements in other comprehensive earnings/losses		$	48			$	(15	)		$	2			$	35

The movements in other comprehensive earnings/losses during the year ended December 31, 2009 were as follows:

 

		Pensions				Postretirement				Postemployment				Total
		(in millions)
Amounts transferred to earnings as components of net periodic benefit cost:
Amortization:
Net losses		$	119			$	36			$	11			$	166
Prior service cost/credit			12				(9	)							3
Other expense:
Net losses			3												3
Deferred income taxes			(52	)			(10	)			(4	)			(66	)
			82				17				7				106
Other movements during the year:
Net losses			413				(25	)			(24	)			364
Prior service cost/credit							75								75
Deferred income taxes			(161	)			(19	)			10				(170	)
			252				31				(14	)			269
Total movements in other comprehensive earnings/losses		$	334			$	48			$	(7	)		$	375

 

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The movements in other comprehensive earnings/losses during the year ended December 31, 2008 were as follows:

 

		Pensions				Postretirement				Postemployment				Total
		(in millions)
Amounts transferred to earnings as components of net periodic benefit cost:
Amortization:
Net losses		$	59			$	31			$	9			$	99
Prior service cost/credit			12				(9	)							3
Other income/expense:
Net losses			45												45
Prior service cost/credit			2				(5	)							(3	)
Deferred income taxes			(46	)			(6	)			(4	)			(56	)
			72				11				5				88
Other movements during the year:
Net losses			(2,072	)			(270	)			—				(2,342	)
Prior service cost/credit			(30	)			(7	)							(37	)
Deferred income taxes			821				109								930
			(1,281	)			(168	)			—				(1,449	)
Amounts related to continuing operations			(1,209	)			(157	)			5				(1,361	)
Amounts related to discontinued operations			(24	)											(24	)
Total movements in other comprehensive earnings/losses		$	(1,233	)		$	(157	)		$	5			$	(1,385	)

 

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Note 19. Additional Information:

The amounts shown below are for continuing operations.

 

		For the Years Ended December 31,
		2010				2009				2008
		(in millions)
Research and development expense		$	144			$	177			$	232
Advertising expense		$	5			$	6			$	6
Interest and other debt expense, net:
Interest expense		$	1,136			$	1,189			$	237
Interest income			(3	)			(4	)			(70	)
		$	1,133			$	1,185			$	167
Interest expense of financial services operations included in cost of sales		$	—			$	20			$	38
Rent expense		$	58			$	55			$	59

Minimum rental commitments and sublease income under non-cancelable operating leases, including amounts associated with closed facilities primarily from the integration of UST (see Note 6. Asset Impairment, Exit, Implementation and Integration Costs), in effect at December 31, 2010, were as follows:

 

		Rental Commitments				Sublease Income
		(in millions)
2011		$	57			$	2
2012			47				2
2013			36				4
2014			24				3
2015			20				5
Thereafter			119				34
		$	303			$	50

 

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Note 20. Financial Instruments:

Derivative Financial Instruments

Derivative financial instruments are used periodically by Altria Group, Inc. and its subsidiaries principally to reduce exposures to market risks resulting from fluctuations in interest rates and foreign exchange rates by creating offsetting exposures. Altria Group, Inc. is not a party to leveraged derivatives and, by policy, does not use derivative financial instruments for speculative purposes. Financial instruments qualifying for hedge accounting must maintain a specified level of effectiveness between the hedging instrument and the item being hedged, both at inception and throughout the hedged period. Altria Group, Inc. formally documents the nature and relationships between the hedging instruments and hedged items, as well as its risk-management objectives, strategies for undertaking the various hedge transactions and method of assessing hedge effectiveness. Additionally, for hedges of forecasted transactions, the significant characteristics and expected terms of the forecasted transaction must be specifically identified, and it must be probable that each forecasted transaction will occur. If it were deemed probable that the forecasted transaction will not occur, the gain or loss would be recognized in earnings currently. Altria Group, Inc. had no derivative activity during the year ended December 31, 2010. During the years ended December 31, 2009 and 2008, ineffectiveness related to fair value hedges and cash flow hedges was not material.

Derivative gains or losses reported in accumulated other comprehensive earnings (losses) are a result of qualifying hedging activity. Transfers of gains or losses from accumulated other comprehensive earnings (losses) to earnings are offset by the corresponding gains or losses on the underlying hedged item. Hedging activity affected accumulated other comprehensive earnings (losses), net of income taxes, during the years ended December 31, 2009 and 2008, as follows:

 

		2009				2008
		(in millions)
Loss as of beginning of year		$	—			$	(5	)
Derivative losses transferred to earnings							93
Change in fair value							(270	)
PMI spin-off							182
Total as of end of year		$	—			$	—

During 2009, subsidiaries of Altria Group, Inc. had forward foreign exchange contracts in connection with anticipated oak barrel purchases for Ste. Michelle’s wine operations. These contracts, which were not material, expired in 2009 and were designated as effective cash flow hedges. During the second quarter of 2009, UST’s interest rate swap contract, which was designated as an effective cash flow hedge, expired in conjunction with the maturity of UST’s $40 million senior notes. At December 31, 2010 and 2009, Altria Group, Inc. had no derivative financial instruments.

During the first quarter of 2008, Altria Group, Inc. purchased forward foreign exchange contracts to mitigate its exposure to changes in exchange rates from its euro-denominated debt. While these forward exchange contracts were effective as economic hedges, they did not qualify for hedge accounting treatment and, therefore, $21 million of gains for the year ended December 31, 2008 relating to these contracts were reported in interest and other debt expense, net, in

 

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Altria Group, Inc.’s consolidated statement of earnings. These contracts and the related debt matured in the second quarter of 2008.

In addition, prior to the PMI spin-off in March 2008, Altria Group, Inc. used foreign currency swaps to mitigate its exposure to changes in exchange rates related to foreign currency denominated debt. These swaps converted fixed-rate foreign currency denominated debt to fixed-rate debt denominated in the functional currency of the borrowing entity, and were accounted for as cash flow hedges. Since the PMI spin-off, Altria Group, Inc. has had no such swap agreements remaining.

Prior to the PMI spin-off in March 2008, Altria Group, Inc. also designated certain foreign currency denominated debt and forwards as net investment hedges of foreign operations. During the year ended December 31, 2008, these hedges of net investments resulted in losses, net of income taxes, of $85 million and were reported as a component of accumulated other comprehensive earnings (losses) within currency translation adjustments. The accumulated losses recorded as net investment hedges of foreign operations were recognized and recorded in connection with the PMI spin-off. Since the PMI spin-off, Altria Group, Inc. has had no such net investment hedges remaining.

Credit exposure and credit risk

Altria Group, Inc. is exposed to credit loss in the event of nonperformance by counterparties. Altria Group, Inc. does not anticipate nonperformance within its consumer products businesses. However, see Note 9. Finance Assets, net regarding PMCC’s assessment of credit loss for its leasing portfolio.

 

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Note 21. Contingencies:

Legal proceedings covering a wide range of matters are pending or threatened in various United States and foreign jurisdictions against Altria Group, Inc. and its subsidiaries, including PM USA and UST and its subsidiaries, as well as their respective indemnitees. Various types of claims are raised in these proceedings, including product liability, consumer protection, antitrust, tax, contraband shipments, patent infringement, employment matters, claims for contribution and claims of distributors.

Litigation is subject to uncertainty and it is possible that there could be adverse developments in pending or future cases. An unfavorable outcome or settlement of pending tobacco-related or other litigation could encourage the commencement of additional litigation. Damages claimed in some tobacco-related and other litigation are or can be significant and, in certain cases, range in the billions of dollars. The variability in pleadings in multiple jurisdictions, together with the actual experience of management in litigating claims, demonstrate that the monetary relief that may be specified in a lawsuit bears little relevance to the ultimate outcome. In certain cases, plaintiffs claim that defendants’ liability is joint and several. In such cases, Altria Group, Inc. or its subsidiaries may face the risk that one or more co-defendants decline or otherwise fail to participate in the bonding required for an appeal or to pay their proportionate or jury-allocated share of a judgment. As a result, Altria Group, Inc. or its subsidiaries under certain circumstances may have to pay more than their proportionate share of any bonding- or judgment-related amounts.

Although PM USA has historically been able to obtain required bonds or relief from bonding requirements in order to prevent plaintiffs from seeking to collect judgments while adverse verdicts have been appealed, there remains a risk that such relief may not be obtainable in all cases. This risk has been substantially reduced given that 43 states now limit the dollar amount of bonds or require no bond at all. As discussed below, however, tobacco litigation plaintiffs have challenged the constitutionality of Florida’s bond cap statute in several cases and plaintiffs may challenge other state bond cap statutes. Although we cannot predict the outcome of such challenges, it is possible that the consolidated results of operations, cash flows or financial position of Altria Group, Inc., or one or more of its subsidiaries, could be materially affected in a particular fiscal quarter or fiscal year by an unfavorable outcome of one or more such challenges.

Altria Group, Inc. and its subsidiaries record provisions in the consolidated financial statements for pending litigation when they determine that an unfavorable outcome is probable and the amount of the loss can be reasonably estimated. At the present time, while it is reasonably possible that an unfavorable outcome in a case may occur, except as discussed elsewhere in this Note 21. Contingencies: (i) management has concluded that it is not probable that a loss has been incurred in any of the pending tobacco-related cases; (ii) management is unable to estimate the possible loss or range of loss that could result from an unfavorable outcome in any of the pending tobacco-related cases; and (iii) accordingly, management has not provided any amounts in the consolidated financial statements for unfavorable outcomes, if any. Legal defense costs are expensed as incurred.

Altria Group, Inc. and its subsidiaries have achieved substantial success in managing litigation. Nevertheless, litigation is subject to uncertainty and significant challenges remain. It is possible that the consolidated results of operations, cash flows or financial position of Altria Group,

 

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Inc., or one or more of its subsidiaries, could be materially affected in a particular fiscal quarter or fiscal year by an unfavorable outcome or settlement of certain pending litigation. Altria Group, Inc. and each of its subsidiaries named as a defendant believe, and each has been so advised by counsel handling the respective cases, that it has valid defenses to the litigation pending against it, as well as valid bases for appeal of adverse verdicts. Each of the companies has defended, and will continue to defend, vigorously against litigation challenges. However, Altria Group, Inc. and its subsidiaries may enter into settlement discussions in particular cases if they believe it is in the best interests of Altria Group, Inc. to do so.

Overview of Altria Group, Inc. and/or PM USA Tobacco-Related Litigation

Types and Number of Cases

Claims related to tobacco products generally fall within the following categories: (i) smoking and health cases alleging personal injury brought on behalf of individual plaintiffs; (ii) smoking and health cases primarily alleging personal injury or seeking court-supervised programs for ongoing medical monitoring and purporting to be brought on behalf of a class of individual plaintiffs, including cases in which the aggregated claims of a number of individual plaintiffs are to be tried in a single proceeding; (iii) health care cost recovery cases brought by governmental (both domestic and foreign) and non-governmental plaintiffs seeking reimbursement for health care expenditures allegedly caused by cigarette smoking and/or disgorgement of profits; (iv) class action suits alleging that the uses of the terms “Lights” and “Ultra Lights” constitute deceptive and unfair trade practices, common law fraud, or violations of the Racketeer Influenced and Corrupt Organizations Act (“RICO”); and (v) other tobacco-related litigation described below. Plaintiffs’ theories of recovery and the defenses raised in pending smoking and health, health care cost recovery and “Lights/Ultra Lights” cases are discussed below.

The table below lists the number of certain tobacco-related cases pending in the United States against PM USA and, in some instances, Altria Group, Inc. as of December 31, 2010, December 31, 2009 and December 31, 2008.

 

Type of Case		Number of Cases Pending as of December 31, 2010				Number of Cases Pending as of December 31, 2009				Number of Cases Pending as of December 31, 2008
Individual Smoking and Health Cases (1)			92				89				99
Smoking and Health Class Actions and Aggregated Claims Litigation (2)			11				7				9
Health Care Cost Recovery Actions			4				3				3
“Lights/Ultra Lights” Class Actions			27				28				18
Tobacco Price Cases			1				2				2

 

(1)

Does not include 2,590 cases brought by flight attendants seeking compensatory damages for personal injuries allegedly caused by exposure to environmental tobacco smoke (“ETS”). The flight attendants allege that they are members of an ETS smoking and health class action, which was settled in 1997 (Broin). The terms of the court-approved settlement in that case allow class members to file individual lawsuits seeking compensatory damages, but prohibit them from seeking punitive damages. Also, does not include approximately 7,228 individual

 

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smoking and health cases (3,288 state court cases and 3,940 federal court cases) brought by or on behalf of approximately 8,900 plaintiffs in Florida (4,961 state court plaintiffs and 3,939 federal court plaintiffs) following the decertification of the Engle case discussed below. It is possible that some of these cases are duplicates and that additional cases have been filed but not yet recorded on the courts’ dockets. Certain Broin plaintiffs have filed a motion seeking approximately $50 million in sanctions for alleged interference by R.J. Reynolds Tobacco Company (“R.J. Reynolds”) and PM USA with Lorillard, Inc.’s acceptance of offers of settlement in the Broin progeny cases.

 

(2)

Includes as one case the 650 civil actions (of which 370 are actions against PM USA) that are proposed to be tried in a single proceeding in West Virginia (In re: Tobacco Litigation). Middleton and USSTC were named as defendants in this action but they, along with other non-cigarette manufacturers, have been severed from this case. The West Virginia Supreme Court of Appeals has ruled that the United States Constitution does not preclude a trial in two phases in this case. Under the current trial plan, issues related to defendants’ conduct and plaintiffs’ entitlement to punitive damages would be determined in the first phase. The second phase would consist of individual trials to determine liability, if any, as well as compensatory and punitive damages, if any. The case is currently scheduled for trial on October 17, 2011.

International Tobacco-Related Cases

As of December 31, 2010, PM USA is a named defendant in Israel in one “Lights” class action and one health care cost recovery action. PM USA is a named defendant in three health care cost recovery actions in Canada, two of which also name Altria Group, Inc. as a defendant. PM USA and Altria Group, Inc. are also named defendants in six smoking and health class actions filed in various Canadian provinces. See “Guarantees” for a discussion of the Distribution Agreement between Altria Group, Inc. and PMI that provides for indemnities for certain liabilities concerning tobacco products.

Pending and Upcoming Tobacco-Related Trials

As of December 31, 2010, 65 Engle progeny cases and 11 individual smoking and health cases against PM USA are set for trial in 2011. Cases against other companies in the tobacco industry are also scheduled for trial in 2011. Trial dates are subject to change.

Trial Results

Since January 1999, verdicts have been returned in 64 smoking and health, “Lights/Ultra Lights” and health care cost recovery cases in which PM USA was a defendant. Verdicts in favor of PM USA and other defendants were returned in 38 of the 64 cases. These 38 cases were tried in California (5), Florida (18), Mississippi (1), Missouri (2), New Hampshire (1), New Jersey (1), New York (3), Ohio (2), Pennsylvania (1), Rhode Island (1), Tennessee (2), and West Virginia (1). A motion for a new trial was granted in one of the cases in Florida.

Of the 26 cases in which verdicts were returned in favor of plaintiffs, eleven have reached final resolution and one case (Williams – see below) has reached partial resolution. A verdict against defendants in one health care cost recovery case (Blue Cross/Blue Shield) has been reversed and all claims were dismissed with prejudice. In addition, a verdict against defendants in a purported “Lights” class action in Illinois (Price) was reversed and the case was dismissed with prejudice in December 2006. In December 2008, the plaintiff in Price filed a motion with the

 

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state trial court to vacate the judgment dismissing this case in light of the United States Supreme Court’s decision in Good (see below for a discussion of developments in Good and Price). After exhausting all appeals, PM USA has paid judgments in these cases totaling $116.4 million and interest totaling $70.6 million.

 

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The chart below lists the verdicts and post-trial developments in the cases that were pending during 2010 in which verdicts were returned in favor of plaintiffs.

 

Date		Location of Court/ Name of Plaintiff		Type of Case		Verdict		Post-Trial Developments
August 2010		Florida/ Piendle		Engle progeny		In August 2010, a Palm Beach County jury returned a verdict in favor of plaintiff and against PM USA and R.J. Reynolds. The jury awarded $4 million in compensatory damages and allocated 27.5% of the fault to PM USA (an amount of approximately $1.1 million). The jury also awarded $90,000 in punitive damages against PM USA.		In September 2010, the trial court entered final judgment. The parties’ post-trial motions are still pending.
July 2010		Florida/ Tate		Engle progeny		In July 2010, a Broward County jury in the Tate trial returned a verdict in favor of the plaintiff and against PM USA. The jury awarded $8 million in compensatory damages and allocated 64% of the fault to PM USA (an amount of approximately $5.1 million). The jury also awarded approximately $16.3 million in punitive damages against PM USA.		In August 2010, the trial court entered final judgment, and PM USA filed its notice of appeal and posted a $5 million appeal bond.
April 2010		Florida/ Putney		Engle progeny		In April 2010, a Broward County jury in the Putney trial returned a verdict in favor of the plaintiff and against PM USA, R.J. Reynolds and Liggett Group. The jury awarded approximately $15.1 million in compensatory damages and allocated 15% of the fault to PM USA (an amount of approximately $2.3 million). The jury also awarded $2.5 million in		In August 2010, the trial court entered final judgment. PM USA filed its notice of appeal and posted a $1.6 million appeal bond.

 

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						punitive damages against PM USA.
March 2010		Florida/ R. Cohen		Engle progeny		In March 2010, a Broward County jury in the R. Cohen trial returned a verdict in favor of the plaintiff and against PM USA and R.J. Reynolds. The jury awarded $10 million in compensatory damages and allocated 33 1/3% of the fault to PM USA (an amount of approximately $3.3 million). The jury also awarded a total of $20 million in punitive damages, assessing separate $10 million awards against both defendants.		In July 2010, the trial court entered final judgment and, in August 2010, PM USA filed its notice of appeal. In October 2010, PM USA posted a $2.5 million appeal bond.
March 2010		Florida/ Douglas		Engle progeny		In March 2010, the jury in the Douglas trial (conducted in Hillsborough County) returned a verdict in favor of the plaintiff and against PM USA, R.J. Reynolds and Liggett Group. The jury awarded $5 million in compensatory damages. Punitive damages were dismissed prior to trial. The jury allocated 18% of the fault to PM USA, resulting in an award of $900,000.		In June 2010, PM USA filed its notice of appeal and posted a $900,000 appeal bond. In September 2010, the plaintiff filed with the trial court a challenge to the constitutionality of the Florida bond cap statute.
November 2009		Florida/ Naugle		Engle progeny		In November 2009, a Broward County jury in the Naugle trial returned a verdict in favor of the plaintiff and against PM USA. The jury awarded approximately $56.6 million in compensatory damages and $244 million in punitive damages. The jury allocated 90% of the fault to PM USA.		In March 2010, the trial court entered final judgment reflecting a reduced award of approximately $13 million in compensatory damages and $26 million in punitive damages. In April 2010, PM USA filed its notice of appeal and posted a $5 million appeal bond. In August 2010, upon the motion of PM

 

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								USA, the trial court entered an amended final judgment of approximately $12.3 million in compensatory damages and approximately $24.5 million in punitive damages to correct a clerical error. The case remains on appeal.
August 2009		Florida/ F. Campbell		Engle progeny		In August 2009, the jury in the F. Campbell trial (conducted in Escambia County) returned a verdict in favor of the plaintiff and against R.J. Reynolds, PM USA and Liggett Group. The jury awarded $7.8 million in compensatory damages. There was no punitive damages award. In September 2009, the trial court entered final judgment and awarded the plaintiff $156,000 in damages against PM USA due to the jury allocating only 2% of the fault to PM USA.		In January 2010, defendants filed their notice of appeal, and PM USA posted a $156,000 appeal bond. The Florida First District Court of Appeals heard argument on January 5, 2011.
August 2009		Florida/ Barbanell		Engle progeny		In August 2009, a Broward County jury in the Barbanell trial returned a verdict in favor of the plaintiff, awarding $5.3 million in compensatory damages. The judge had previously dismissed the punitive damages claim. In September 2009, the trial court entered final judgment and awarded plaintiff $1.95 million in actual damages. The judgment reduced the jury’s $5.3 million award of compensatory damages due to the jury allocating 36.5% of the fault to PM USA.		A notice of appeal was filed by PM USA in September 2009, and PM USA posted a $1.95 million appeal bond.

 

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February 2009		Florida/ Hess		Engle progeny		In February 2009, a Broward County jury in the Hess trial found in favor of plaintiffs and against PM USA. The jury awarded $3 million in compensatory damages and $5 million in punitive damages. In June 2009, the trial court entered final judgment and awarded plaintiffs $1,260,000 in actual damages and $5 million in punitive damages. The judgment reduced the jury’s $3 million award of compensatory damages due to the jury allocating 42% of the fault to PM USA.		PM USA noticed an appeal to the Fourth District Court of Appeal in July 2009. In April 2010, the trial court signed an order releasing a previously posted bond pursuant to an agreement between the parties. The case remains on appeal.
May 2007		California/ Whiteley		Individual Smoking and Health		Approximately $2.5 million in compensatory damages against PM USA and the other defendant in the case, as well as $250,000 in punitive damages against the other defendant in the case.		In October 2007, in a limited retrial on the issue of punitive damages, the jury found that plaintiffs are not entitled to punitive damages against PM USA. In March 2008, PM USA noticed an appeal to the California Court of Appeal, First Appellate District, which affirmed the judgment in October 2009. In November 2009, PM USA and the other defendant in the case filed a petition for review with the California Supreme Court. In January 2010, the California Supreme Court denied defendants’ petition for review. PM USA recorded a provision for compensatory damages of $1.26 million plus costs and interest in the first quarter of 2010, and paid its share of the judgment in February 2010, concluding this litigation.
August 2006		District of		Health Care		Finding that defendants,		See Federal

 

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		Columbia/ United States of America		Cost Recovery		including Altria Group, Inc. and PM USA, violated the civil provisions of RICO. No monetary damages were assessed, but the court made specific findings and issued injunctions. See Federal Government’s Lawsuit below.		Government’s Lawsuit below.
May 2004		Louisiana/ Scott		Smoking and Health Class Action		Approximately $590 million against all defendants, including PM USA, jointly and severally, to fund a 10-year smoking cessation program.		See Scott Class Action below.
October 2002		California/ Bullock		Individual Smoking and Health		$850,000 in compensatory damages and $28 billion in punitive damages against PM USA.		See discussion (1) below.
June 2002		Florida/ Lukacs		Engle progeny		$37.5 million in compensatory damages against all defendants, including PM USA.		In March 2003, the trial court reduced the damages award to $24.8 million. Final judgment was entered in November 2008, awarding plaintiffs actual damages of $24.8 million, plus interest from the date of the verdict. Defendants filed a notice of appeal in December 2008. In March 2010, the Florida Third District Court of Appeal affirmed per curiam the trial court decision without issuing an opinion. Subsequent review by the Florida Supreme Court of a per curiam affirmance without opinion is generally prohibited. In May 2010, the court of appeal denied the defendants’ petition for re-hearing. In June 2010, PM USA paid its share of the judgment which, with

 

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								interest, amounted to approximately $15.1 million.
March 2002		Oregon/ Schwarz		Individual Smoking and Health		$168,500 in compensatory damages and $150 million in punitive damages against PM USA.		In May 2002, the trial court reduced the punitive damages award to $100 million. In October 2002, PM USA posted an appeal bond of approximately $58.3 million. In May 2006, the Oregon Court of Appeals affirmed the compensatory damages verdict, reversed the award of punitive damages and remanded the case to the trial court for a second trial to determine the amount of punitive damages, if any. In June 2006, plaintiff petitioned the Oregon Supreme Court to review the portion of the court of appeals’ decision reversing and remanding the case for a new trial on punitive damages. In June 2010, the Oregon Supreme Court affirmed the court of appeals’ decision and remanded the case to the trial court for a new trial limited to the question of punitive damages. In July 2010, plaintiff filed a petition for rehearing with the Oregon Supreme Court. On December 30, 2010, the Oregon Supreme Court reaffirmed its earlier ruling, clarified that the only issue for retrial is the amount of punitive damages and awarded PM USA approximately $500,000 in costs. On January 7,

 

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								2011, the trial court issued an order releasing PM USA’s appeal bond.
March 1999		Oregon/ Williams		Individual Smoking and Health		$800,000 in compensatory damages (capped statutorily at $500,000), $21,500 in medical expenses and $79.5 million in punitive damages against PM USA.		See discussion (2) below.

 

(1)

Bullock: In December 2002, the trial court reduced the punitive damages award to $28 million. In April 2006, the California Court of Appeal affirmed the $28 million punitive damages award. In August 2006, the California Supreme Court denied plaintiffs’ petition to overturn the trial court’s reduction of the punitive damages award and granted PM USA’s petition for review challenging the punitive damages award. The court granted review of the case on a “grant and hold” basis under which further action by the court was deferred pending the United States Supreme Court’s 2007 decision on punitive damages in the Williams case described below. In February 2007, the United States Supreme Court vacated the punitive damages judgment in Williams and remanded the case to the Oregon Supreme Court for proceedings consistent with its decision. In May 2007, the California Supreme Court transferred the case to the Second District of the California Court of Appeal with directions that the court vacate its 2006 decision and reconsider the case in light of the United States Supreme Court’s decision in Williams. In January 2008, the California Court of Appeal reversed the judgment with respect to the $28 million punitive damages award, affirmed the judgment in all other respects, and remanded the case to the trial court to conduct a new trial on the amount of punitive damages. In March 2008, plaintiffs and PM USA appealed to the California Supreme Court. In April 2008, the California Supreme Court denied both petitions for review. In July 2008, $43.3 million of escrow funds were returned to PM USA. The case was remanded to the superior court for a new trial on the amount of punitive damages, if any. In August 2009, the jury returned a verdict, and in December 2009, the superior court entered a judgment, awarding plaintiff $13.8 million in punitive damages, plus costs. In December 2009, PM USA filed a motion for judgment notwithstanding the verdict that seeks a reduction of the punitive damages award, which motion was denied in January 2010. PM USA noticed an appeal in February 2010 and posted an appeal bond of approximately $14.7 million. As of December 31, 2010, PM USA has recorded a provision of approximately $1.7 million for compensatory damages, costs and interest.

(2)

Williams: The trial court reduced the punitive damages award to approximately $32 million, and PM USA and plaintiff appealed. In June 2002, the Oregon Court of Appeals reinstated the $79.5 million punitive damages award. Following the Oregon Supreme Court’s refusal to hear PM USA’s appeal, PM USA recorded a provision of $32 million and petitioned the United States Supreme Court for further review (PM USA later recorded additional provisions of approximately $29 million related primarily to accrued interest). In October 2003, the United States Supreme Court set aside the Oregon appellate court’s ruling and directed the Oregon court to reconsider the case in light of the 2003 State Farm decision by the United States Supreme Court, which limited punitive damages. In June 2004, the Oregon Court of Appeals reinstated the $79.5 million punitive damages award. In February 2006, the Oregon Supreme Court affirmed the Court of Appeals’ decision. The United States Supreme Court granted PM USA’s petition for writ of certiorari in May 2006. In February 2007, the United States

 

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Supreme Court vacated the $79.5 million punitive damages award, holding that the United States Constitution prohibits basing punitive damages awards on harm to non-parties. The Court also found that states must assure that appropriate procedures are in place so that juries are provided with proper legal guidance as to the constitutional limitations on awards of punitive damages. Accordingly, the Court remanded the case to the Oregon Supreme Court for further proceedings consistent with this decision. In January 2008, the Oregon Supreme Court affirmed the Oregon Court of Appeals’ June 2004 decision, which in turn, upheld the jury’s compensatory damages award and reinstated the jury’s award of $79.5 million in punitive damages. In March 2008, PM USA filed a petition for writ of certiorari with the United States Supreme Court, which was granted in June 2008. In March 2009, the United States Supreme Court dismissed the writ of certiorari as being improvidently granted. Subsequent to the United States Supreme Court’s dismissal, PM USA paid $61.1 million to the plaintiffs, representing the compensatory damages award, forty percent of the punitive damages award and accrued interest. Oregon state law requires that sixty percent of any punitive damages award be paid to the state. However, PM USA believes that, as a result of the Master Settlement Agreement (“MSA”), it is not liable for the sixty percent that would be paid to the state. Oregon and PM USA are parties to a proceeding in Oregon state court that seeks a determination of PM USA’s liability for that sixty percent. If PM USA prevails, its obligation to pay punitive damages will be limited to the forty percent previously paid to the plaintiff. The court has consolidated that MSA proceeding with Williams, where plaintiff seeks to challenge the constitutionality of the Oregon statute apportioning the punitive damages award and claims that any punitive damages award released by the state reverts to plaintiff. In February 2010, the trial court ruled that the state is not entitled to collect its sixty percent share of the punitive damages award. In June 2010, after hearing argument, the trial court held that, under the Oregon statute, PM USA is not required to pay the sixty percent share to plaintiff. In October 2010 the trial court rejected plaintiff’s argument that the Oregon statute regarding allocation of punitive damages is unconstitutional. The combined effect of these rulings is that PM USA would not be required to pay the state’s sixty percent share of the punitive damages award. Both the plaintiff in Williams and the state appealed these rulings to the Oregon Court of Appeals. On its own motion, the Oregon Court of Appeals on December 15, 2010, certified the appeals to the Oregon Supreme Court, and on December 16, 2010, the Oregon Supreme Court accepted certification. PM USA has asked the Oregon Supreme Court to reconsider its decision to accept certification of the case.

Security for Judgments

To obtain stays of judgments pending current appeals, as of December 31, 2010, PM USA has posted various forms of security totaling approximately $103 million, the majority of which has been collateralized with cash deposits that are included in other assets on the condensed consolidated balance sheets.

Engle Class Action

In July 2000, in the second phase of the Engle smoking and health class action in Florida, a jury returned a verdict assessing punitive damages totaling approximately $145 billion against various defendants, including $74 billion against PM USA. Following entry of judgment, PM USA posted a bond in the amount of $100 million and appealed.

In May 2001, the trial court approved a stipulation providing that execution of the punitive damages component of the Engle judgment will remain stayed against PM USA and the other participating defendants through the completion of all judicial review. As a result of the stipulation, PM USA placed $500 million into a separate interest-bearing escrow account that,

 

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regardless of the outcome of the judicial review, will be paid to the court and the court will determine how to allocate or distribute it consistent with Florida Rules of Civil Procedure. In July 2001, PM USA also placed $1.2 billion into an interest-bearing escrow account, which was returned to PM USA in December 2007. In addition, the $100 million bond related to the case has been discharged. In connection with the stipulation, PM USA recorded a $500 million pre-tax charge in its consolidated statement of earnings for the quarter ended March 31, 2001. In May 2003, the Florida Third District Court of Appeal reversed the judgment entered by the trial court and instructed the trial court to order the decertification of the class. Plaintiffs petitioned the Florida Supreme Court for further review.

In July 2006, the Florida Supreme Court ordered that the punitive damages award be vacated, that the class approved by the trial court be decertified, and that members of the decertified class could file individual actions against defendants within one year of issuance of the mandate. The court further declared the following Phase I findings are entitled to res judicata effect in such individual actions brought within one year of the issuance of the mandate: (i) that smoking causes various diseases; (ii) that nicotine in cigarettes is addictive; (iii) that defendants’ cigarettes were defective and unreasonably dangerous; (iv) that defendants concealed or omitted material information not otherwise known or available knowing that the material was false or misleading or failed to disclose a material fact concerning the health effects or addictive nature of smoking; (v) that defendants agreed to misrepresent information regarding the health effects or addictive nature of cigarettes with the intention of causing the public to rely on this information to their detriment; (vi) that defendants agreed to conceal or omit information regarding the health effects of cigarettes or their addictive nature with the intention that smokers would rely on the information to their detriment; (vii) that all defendants sold or supplied cigarettes that were defective; and (viii) that defendants were negligent. The court also reinstated compensatory damages awards totaling approximately $6.9 million to two individual plaintiffs and found that a third plaintiff’s claim was barred by the statute of limitations. In February 2008, PM USA paid a total of $2,964,685, which represents its share of compensatory damages and interest to the two individual plaintiffs identified in the Florida Supreme Court’s order.

In August 2006, PM USA sought rehearing from the Florida Supreme Court on parts of its July 2006 opinion, including the ruling (described above) that certain jury findings have res judicata effect in subsequent individual trials timely brought by Engle class members. The rehearing motion also asked, among other things, that legal errors that were raised but not expressly ruled upon in the Third District Court of Appeal or in the Florida Supreme Court now be addressed. Plaintiffs also filed a motion for rehearing in August 2006 seeking clarification of the applicability of the statute of limitations to non-members of the decertified class. In December 2006, the Florida Supreme Court refused to revise its July 2006 ruling, except that it revised the set of Phase I findings entitled to res judicata effect by excluding finding (v) listed above (relating to agreement to misrepresent information), and added the finding that defendants sold or supplied cigarettes that, at the time of sale or supply, did not conform to the representations of fact made by defendants. In January 2007, the Florida Supreme Court issued the mandate from its revised opinion. Defendants then filed a motion with the Florida Third District Court of Appeal requesting that the court address legal errors that were previously raised by defendants but have not yet been addressed either by the Third District Court of Appeal or by the Florida Supreme Court. In February 2007, the Third District Court of Appeal denied defendants’ motion. In May 2007, defendants’ motion for a partial stay of the mandate pending the completion of appellate review was denied by the Third District Court of Appeal. In May 2007, defendants filed a petition for writ of certiorari with the United States Supreme Court. In

 

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October 2007, the United States Supreme Court denied defendants’ petition. In November 2007, the United States Supreme Court denied defendants’ petition for rehearing from the denial of their petition for writ of certiorari.

The deadline for filing Engle progeny cases, as required by the Florida Supreme Court’s decision, expired in January 2008. As of December 31, 2010, approximately 7,228 cases (3,288 state court cases and 3,940 federal court cases) were pending against PM USA or Altria Group, Inc. asserting individual claims by or on behalf of approximately 8,900 plaintiffs (4,961 state court plaintiffs and 3,939 federal court plaintiffs). It is possible that some of these cases are duplicates. Some of these cases have been removed from various Florida state courts to the federal district courts in Florida, while others were filed in federal court. In July 2007, PM USA and other defendants requested that the multi-district litigation panel order the transfer of all such cases pending in the federal courts, as well as any other Engle progeny cases that may be filed, to the Middle District of Florida for pretrial coordination. The panel denied this request in December 2007. In October 2007, attorneys for plaintiffs filed a motion to consolidate all pending and future cases filed in the state trial court in Hillsborough County. The court denied this motion in November 2007. In February 2008, the trial court decertified the class except for purposes of the May 2001 bond stipulation, and formally vacated the punitive damages award pursuant to the Florida Supreme Court’s mandate. In April 2008, the trial court ruled that certain defendants, including PM USA, lacked standing with respect to allocation of the funds escrowed under the May 2001 bond stipulation and will receive no credit at this time from the $500 million paid by PM USA against any future punitive damages awards in cases brought by former Engle class members.

In May 2008, the trial court, among other things, decertified the limited class maintained for purposes of the May 2001 bond stipulation and, in July 2008, severed the remaining plaintiffs’ claims except for those of Howard Engle. The only remaining plaintiff in the Engle case, Howard Engle, voluntarily dismissed his claims with prejudice. In July 2008, attorneys for a putative former Engle class member petitioned the Florida Supreme Court to permit members of the Engle class additional time to file individual lawsuits. The Florida Supreme Court denied this petition in January 2009.

Federal Engle Progeny Cases

Three federal district courts (in the Merlob, Brown and Burr cases) ruled that the findings in the first phase of the Engle proceedings cannot be used to satisfy elements of plaintiffs’ claims, and two of those rulings (Brown and Burr) were certified by the trial court for interlocutory review. The certification in both cases was granted by the United States Court of Appeals for the Eleventh Circuit and the appeals were consolidated. In February 2009, the appeal in Burr was dismissed for lack of prosecution. In July 2010, the Eleventh Circuit ruled that plaintiffs do not have an unlimited right to use the findings from the original Engle trial to meet their burden of establishing the elements of their claims at trial. Rather, plaintiffs may only use the findings to establish those specific facts, if any, that they demonstrate with a reasonable degree of certainty were actually decided by the original Engle jury. The Eleventh Circuit remanded the case to the district court to determine what specific factual findings the Engle jury actually made. Engle progeny cases pending in the federal district courts in the Middle District of Florida asserting individual claims by or on behalf of approximately 4,420 plaintiffs had been stayed pending the Eleventh Circuit’s review. On December 22, 2010, stays were lifted in 12 cases selected by plaintiffs, and notices of voluntary dismissals of approximately 500 cases have been granted. The remaining cases are currently stayed.

 

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Florida Bond Cap Statute

In June 2009, Florida amended its existing bond cap statute by adding a $200 million bond cap that applies to all Engle progeny lawsuits in the aggregate and establishes individual bond caps for individual Engle progeny cases in amounts that vary depending on the number of judgments in effect at a given time. The legislation, which became effective in June 2009, applies to judgments entered after the effective date and remains in effect until December 31, 2012. Plaintiffs in three Engle progeny cases against R.J. Reynolds in Alachua County, Florida (Alexander, Townsend and Hall) and one case in Escambia County (Clay) have challenged the constitutionality of the bond cap statute. The Florida Attorney General has intervened in these cases in defense of the constitutionality of the statute. Argument in these cases was heard in September 2010. Plaintiffs in one Engle progeny case against PM USA and R.J. Reynolds in Hillsborough County (Douglas) have also challenged the constitutionality of the bond cap statute. On January 4, 2011, the trial court in Escambia County rejected plaintiffs’ bond cap statute challenge and declared the statute constitutional in the Clay case.

Engle Progeny Trial Results

As of December 31, 2010, eighteen Engle progeny cases involving PM USA have resulted in verdicts since the Florida Supreme Court Engle decision. Nine verdicts (see Hess, Barbanell, F. Campbell, Naugle, Douglas, R. Cohen, Putney, Tate and Piendle descriptions in the table above) were returned in favor of plaintiffs and nine verdicts were returned in favor of PM USA (Gelep, Kalyvas, Gil de Rubio, Warrick, Willis, Frazier, C. Campbell, Rohr and Espinosa). Engle progeny trial results adverse to PM USA are included in the totals provided in Trial Results above. In addition, there have been a number of mistrials, only some of which have resulted in new trials as of December 31, 2010.

In Lukacs, a case that was tried to verdict before the Florida Supreme Court Engle decision and is described in Trial Results above, the Florida Third District Court of Appeal in March 2010 affirmed per curiam the trial court decision without issuing an opinion. Under Florida procedure, further review of a per curiam affirmance without opinion by the Florida Supreme Court is generally prohibited. In April 2010, defendants filed their petition for rehearing with the Court of Appeal. In May 2010, the Court of Appeal denied the defendants’ petition. The defendants paid the judgment in June 2010.

In May 2010, the jury returned a verdict in favor of PM USA in the Gil de Rubio case. In June 2010, plaintiff filed a motion for a new trial.

In October 2010, juries in five Engle progeny cases (Warrick, Willis, Frazier, C. Campbell and Rohr) returned verdicts in favor of PM USA. The Willis and C. Campbell cases have concluded.

On November 12, 2010, the jury in the Espinosa case returned a verdict in favor of PM USA.

Appeals of Engle Progeny Verdicts

Plaintiffs in various Engle progeny cases have appealed adverse rulings or verdicts, and in some cases, PM USA has cross-appealed. PM USA’s appeals of adverse verdicts are discussed in Trial Results above.

 

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On December 14, 2010, in a case against R.J. Reynolds in Escambia County (Martin), the Florida First District Court of Appeals issued the first ruling by a Florida intermediate appellate court to substantively address the Brown decision of the U.S. Circuit Court of Appeals for the Eleventh Circuit, affirming the final judgment entered in plaintiff’s favor imposing both compensatory and punitive damages. The panel held that the trial court correctly construed the Florida Supreme Court’s 2006 decision in Engle in instructing the jury on the preclusive effect of the first phase of the Engle proceedings, expressly disagreeing with certain aspects of the Brown decision. R.J. Reynolds is seeking en banc review as well as certification of the appeal to the Florida Supreme Court.

Scott Class Action

In July 2003, following the first phase of the trial in the Scott class action, in which plaintiffs sought creation of a fund to pay for medical monitoring and smoking cessation programs, a Louisiana jury returned a verdict in favor of defendants, including PM USA, in connection with plaintiffs’ medical monitoring claims, but also found that plaintiffs could benefit from smoking cessation assistance. The jury also found that cigarettes as designed are not defective but that the defendants failed to disclose all they knew about smoking and diseases and marketed their products to minors. In May 2004, in the second phase of the trial, the jury awarded plaintiffs approximately $590 million against all defendants jointly and severally, to fund a 10-year smoking cessation program.

In June 2004, the court entered judgment, which awarded plaintiffs the approximately $590 million jury award plus prejudgment interest accruing from the date the suit commenced. PM USA’s share of the jury award and prejudgment interest has not been allocated. Defendants, including PM USA, appealed. Pursuant to a stipulation of the parties, the trial court entered an order setting the amount of the bond at $50 million for all defendants in accordance with an article of the Louisiana Code of Civil Procedure, and a Louisiana statute (the “bond cap law”), fixing the amount of security in civil cases involving a signatory to the MSA. Under the terms of the stipulation, plaintiffs reserve the right to contest, at a later date, the sufficiency or amount of the bond on any grounds including the applicability or constitutionality of the bond cap law. In September 2004, defendants collectively posted a bond in the amount of $50 million ($12.5 million of which was posted by PM USA).

In February 2007, the Louisiana Fourth Circuit Court of Appeal issued a ruling on defendants’ appeal that, among other things: affirmed class certification but limited the scope of the class; struck certain of the categories of damages included in the judgment, reducing the amount of the award by approximately $312 million; vacated the award of prejudgment interest, which totaled approximately $444 million as of February 15, 2007; and ruled that the only class members who are eligible to participate in the smoking cessation program are those who began smoking before, and whose claims accrued by, September 1, 1988. As a result, the Louisiana Court of Appeal remanded the case for proceedings consistent with its opinion, including further reduction of the amount of the award based on the size of the new class. In March 2007, the Louisiana Court of Appeal rejected defendants’ motion for rehearing and clarification. In January 2008, the Louisiana Supreme Court denied plaintiffs’ and defendants’ petitions for writ of certiorari. In March 2008, plaintiffs filed a motion to execute the approximately $279 million judgment plus post-judgment interest or, in the alternative, for an order to the parties to submit revised damages figures. Defendants filed a motion to have judgment entered in favor of defendants based on accrual of all class member claims after September 1, 1988 or, in the

 

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alternative, for the entry of a case management order. In April 2008, the Louisiana Supreme Court denied defendants’ motion to stay proceedings and the defendants filed a petition for writ of certiorari with the United States Supreme Court. In June 2008, the United States Supreme Court denied the defendant’s petition. Plaintiffs filed a motion to enter judgment in the amount of approximately $280 million (subsequently changed to approximately $264 million) and defendants filed a motion to enter judgment in their favor dismissing the case entirely or, alternatively, to enter a case management order for a new trial. In July 2008, the trial court entered an Amended Judgment and Reasons for Judgment denying both motions, but ordering defendants to deposit into the registry of the court the sum of $263,532,762 plus post-judgment interest.

In September 2008, defendants filed an application for writ of mandamus or supervisory writ to secure the right to appeal with the Louisiana Fourth Circuit Court of Appeal, and in December 2008, the trial court entered an order permitting the appeal and approving a $50 million bond for all defendants in accordance with the Louisiana bond cap law discussed above. In April 2009, plaintiffs filed a cross-appeal seeking to reinstate the June 2004 judgment and to award the medical monitoring rejected by the jury.

In April 2010, the Louisiana Fourth Circuit Court of Appeal issued a decision that affirmed in part prior decisions ordering the defendants to fund a statewide 10-year smoking cessation program. In its decision, the Court of Appeal amended and, as amended, affirmed the amended 2008 trial court judgment and ruled that, although the trial court erred, the defendants have no right to a trial to determine, among other things, those class members with valid claims not barred by Louisiana law. After conducting its own independent review of the record, the Court of Appeal made its own factual findings with respect to liability and the amount owed, lowering the amount of the judgment to approximately $241 million, plus interest commencing July 21, 2008, the date of entry of the amended judgment (which as of December 31, 2010 is approximately $32 million). In its decision, the Court of Appeal disallowed approximately $80 million in post-judgment interest. In addition, the Court of Appeal declined plaintiffs’ cross appeal requests for a medical monitoring program and reinstatement of other components of the smoking cessation program. The Court of Appeal specifically reserved to the defendants the right to assert claims to any unspent or unused surplus funds at the termination of the smoking cessation program. In June 2010, defendants and plaintiffs filed separate writ of certiorari applications with the Louisiana Supreme Court. The Louisiana Supreme Court denied both sides’ applications. In September 2010, upon defendants’ application, the United States Supreme Court granted a stay of the judgment pending the defendants’ filing and the Court’s disposition of the defendants’ petition for a writ of certiorari. The defendants’ filed their petition for a writ of certiorari on December 2, 2010. As of December 31, 2010, PM USA has recorded a provision of $26 million in connection with the case and has recorded additional provisions of approximately $3.4 million related to accrued interest.

Smoking and Health Litigation

Overview

Plaintiffs’ allegations of liability in smoking and health cases are based on various theories of recovery, including negligence, gross negligence, strict liability, fraud, misrepresentation, design defect, failure to warn, nuisance, breach of express and implied warranties, breach of special duty, conspiracy, concert of action, violations of deceptive trade practice laws and consumer protection statutes, and claims under the federal and state anti-racketeering statutes.

 

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Plaintiffs in the smoking and health actions seek various forms of relief, including compensatory and punitive damages, treble/multiple damages and other statutory damages and penalties, creation of medical monitoring and smoking cessation funds, disgorgement of profits, and injunctive and equitable relief. Defenses raised in these cases include lack of proximate cause, assumption of the risk, comparative fault and/or contributory negligence, statutes of limitations and preemption by the Federal Cigarette Labeling and Advertising Act.

In July 2008, the New York Supreme Court, Appellate Division, First Department in Fabiano, an individual personal injury case, held that plaintiffs’ punitive damages claim was barred by the MSA based on principles of res judicata because the New York Attorney General had already litigated the punitive damages claim on behalf of all New York residents. In May 2010, the New York Supreme Court, Appellate Division, Second Department, adopted the reasoning of the First Department in Fabiano and issued a per curiam opinion affirming separate trial court rulings dismissing plaintiffs’ punitive damages claims in Shea and Tomasino, two individual personal injury cases.

Smoking and Health Class Actions

Since the dismissal in May 1996 of a purported nationwide class action brought on behalf of allegedly addicted smokers, plaintiffs have filed numerous putative smoking and health class action suits in various state and federal courts. In general, these cases purport to be brought on behalf of residents of a particular state or states (although a few cases purport to be nationwide in scope) and raise addiction claims and, in many cases, claims of physical injury as well.

Class certification has been denied or reversed by courts in 58 smoking and health class actions involving PM USA in Arkansas (1), the District of Columbia (2), Florida (2), Illinois (3), Iowa (1), Kansas (1), Louisiana (1), Maryland (1), Michigan (1), Minnesota (1), Nevada (29), New Jersey (6), New York (2), Ohio (1), Oklahoma (1), Pennsylvania (1), Puerto Rico (1), South Carolina (1), Texas (1) and Wisconsin (1).

PM USA and Altria Group, Inc. are named as defendants, along with other cigarette manufacturers, in six actions filed in the Canadian provinces of Alberta, Manitoba, Nova Scotia, Saskatchewan and British Columbia. In Saskatchewan and British Columbia, plaintiffs seek class certification on behalf of individuals who suffer or have suffered from various diseases including chronic obstructive pulmonary disease, emphysema, heart disease or cancer after smoking defendants’ cigarettes. In the actions filed in Alberta, Manitoba and Nova Scotia, plaintiffs seek certification of classes of all individuals who smoked defendants’ cigarettes. See “Guarantees” for a discussion of the Distribution Agreement between Altria Group, Inc. and PMI that provides for indemnities for certain liabilities concerning tobacco products.

Medical Monitoring Class Actions

A class remains certified in the Scott class action discussed above. Four other purported medical monitoring class actions are pending against PM USA. These cases have been brought in New York (Caronia, filed in January 2006 in the United States District Court for the Eastern District of New York), Massachusetts (Donovan, filed in December 2006 in the United States District Court for the District of Massachusetts), California (Xavier, filed in May 2010 in the United States District Court for the Northern District of California), and Florida (Gargano, filed on November 9, 2010 in the United States District Court for the Southern District of Florida) on behalf of each state’s respective residents who: are age 50 or older; have smoked the Marlboro

 

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brand for 20 pack-years or more; and have neither been diagnosed with lung cancer nor are under investigation by a physician for suspected lung cancer. Plaintiffs in these cases seek to impose liability under various product-based causes of action and the creation of a court-supervised program providing members of the purported class Low Dose CT Scanning in order to identify and diagnose lung cancer. Plaintiffs in these cases do not seek punitive damages.

In Caronia, in February 2010, the district court granted in part PM USA’s summary judgment motion, dismissing plaintiffs’ strict liability and negligence claims and certain other claims, granted plaintiffs leave to amend their complaint to allege a medical monitoring cause of action and requested further briefing on PM USA’s summary judgment motion as to plaintiffs’ implied warranty claim and, if plaintiffs amend their complaint, their medical monitoring claim. In March 2010, plaintiffs filed their amended complaint and PM USA moved to dismiss the implied warranty and medical monitoring claims. On January 13, 2011, the district court granted PM USA’s motion, dismissed plaintiffs’ claims and declared plaintiffs’ motion for class certification moot in light of the dismissal of the case. The plaintiffs have filed a notice of appeal with the U.S. Court of Appeals for the Second Circuit.

In Donovan, the Supreme Judicial Court of Massachusetts, in answering questions certified to it by the district court, held in October 2009 that under certain circumstances state law recognizes a claim by individual smokers for medical monitoring despite the absence of an actual injury. The court also ruled that whether or not the case is barred by the applicable statute of limitations is a factual issue to be determined by the trial court. The case was remanded to federal court for further proceedings. In June 2010, the district court granted in part the plaintiffs’ motion for class certification, certifying the class as to plaintiffs’ claims for breach of implied warranty and violation of the Massachusetts Consumer Protection Act, but denying certification as to plaintiffs’ negligence claim. In July 2010, PM USA petitioned the U.S. Court of Appeals for the First Circuit for appellate review of the class certification decision. The petition was denied in September 2010. Trial has been set for August 1, 2011.

In Xavier, in October 2010, the trial court granted PM USA’s motion to dismiss plaintiffs’ unfair competition claim and independent medical monitoring cause of action. Although a class has not yet been certified, trial has been set for November 14, 2011.

In Gargano, PM USA filed a motion to dismiss on December 20, 2010. On January 18, 2011, after the time to respond to PM USA’s motion to dismiss had expired, plaintiff filed a motion seeking leave to file an amended complaint.

Another purported class action (Calistro) was filed in July 2010 in the U.S. District Court for the District of the Virgin Islands, Division of St. Thomas & St. John. Altria Group, Inc. was voluntarily dismissed from the case by the plaintiffs in August 2010. In September 2010, plaintiffs voluntarily dismissed without prejudice their claims against all defendants except PM USA. Plaintiffs filed a motion to stay and transfer the case to the “Lights” multidistrict litigation proceeding discussed below. Following the plaintiffs’ amendment of their complaint to assert only “Lights” economic loss claims and to eliminate all medical monitoring claims, the case was transferred to the multidistrict “Lights” proceedings discussed below.

Health Care Cost Recovery Litigation

Overview

In health care cost recovery litigation, governmental entities and non-governmental plaintiffs seek reimbursement of health care cost expenditures allegedly caused by tobacco products and, in

 

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some cases, of future expenditures and damages as well. Relief sought by some but not all plaintiffs includes punitive damages, multiple damages and other statutory damages and penalties, injunctions prohibiting alleged marketing and sales to minors, disclosure of research, disgorgement of profits, funding of anti-smoking programs, additional disclosure of nicotine yields, and payment of attorney and expert witness fees.

The claims asserted include the claim that cigarette manufacturers were “unjustly enriched” by plaintiffs’ payment of health care costs allegedly attributable to smoking, as well as claims of indemnity, negligence, strict liability, breach of express and implied warranty, violation of a voluntary undertaking or special duty, fraud, negligent misrepresentation, conspiracy, public nuisance, claims under federal and state statutes governing consumer fraud, antitrust, deceptive trade practices and false advertising, and claims under federal and state anti-racketeering statutes.

Defenses raised include lack of proximate cause, remoteness of injury, failure to state a valid claim, lack of benefit, adequate remedy at law, “unclean hands” (namely, that plaintiffs cannot obtain equitable relief because they participated in, and benefited from, the sale of cigarettes), lack of antitrust standing and injury, federal preemption, lack of statutory authority to bring suit, and statutes of limitations. In addition, defendants argue that they should be entitled to “set off” any alleged damages to the extent the plaintiffs benefit economically from the sale of cigarettes through the receipt of excise taxes or otherwise. Defendants also argue that these cases are improper because plaintiffs must proceed under principles of subrogation and assignment. Under traditional theories of recovery, a payor of medical costs (such as an insurer) can seek recovery of health care costs from a third party solely by “standing in the shoes” of the injured party. Defendants argue that plaintiffs should be required to bring any actions as subrogees of individual health care recipients and should be subject to all defenses available against the injured party.

Although there have been some decisions to the contrary, most judicial decisions have dismissed all or most health care cost recovery claims against cigarette manufacturers. Nine federal circuit courts of appeals and eight state appellate courts, relying primarily on grounds that plaintiffs’ claims were too remote, have ordered or affirmed dismissals of health care cost recovery actions. The United States Supreme Court has refused to consider plaintiffs’ appeals from the cases decided by five circuit courts of appeals.

In March 1999, in the first health care cost recovery case to go to trial, an Ohio jury returned a verdict in favor of defendants on all counts. In addition, a $17.8 million verdict against defendants (including $6.8 million against PM USA) was reversed in a health care cost recovery case in New York, and all claims were dismissed with prejudice in February 2005 (Blue Cross/Blue Shield).

In the health care cost recovery case brought by the City of St. Louis, Missouri and approximately 40 Missouri hospitals, in which PM USA, USSTC and Altria Group, Inc. are defendants (City of St. Louis), the trial court in July 2010, granted defendants' motion for summary judgment with respect to certain of plaintiffs' claims on the grounds that they were preempted. The court had earlier denied a number of other summary judgment motions by defendants and denied plaintiffs’ motion for summary judgment claiming collateral estoppel from the findings in the case brought by the Department of Justice (see Federal Government’s Lawsuit described below). The court also had previously granted defendants' motion for partial summary judgment on plaintiffs’ claim for future damages (although on November 29, 2010, the trial

 

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court ruled that the damages period for the case would extend through December 31, 2010). In September 2010, the trial court denied several of defendants’ summary judgment motions, but granted defendants’ motion seeking to prevent plaintiffs from recovering the “present value” of their damages, which are alleged to amount to approximately $300 million. In October 2010, the trial court granted defendants summary judgment with respect to plaintiffs’ fraud and negligent misrepresentation claims. Trial began on January 10, 2011.

Individuals and associations have also sued in purported class actions or as private attorneys general under the Medicare as Secondary Payer (“MSP”) provisions of the Social Security Act to recover from defendants Medicare expenditures allegedly incurred for the treatment of smoking-related diseases. Cases brought in New York (Mason), Florida (Glover) and Massachusetts (United Seniors Association) have been dismissed by federal courts. In April 2008, an action, National Committee to Preserve Social Security and Medicare, et al. v. Philip Morris USA, et al. (“National Committee I”), was brought under the MSP statute in the Circuit Court of the Eleventh Judicial Circuit of and for Miami County, Florida, but was dismissed voluntarily in May 2008. The action purported to be brought on behalf of Medicare to recover an unspecified amount of damages equal to double the amount paid by Medicare for smoking-related health care services provided from April 19, 2002 to the present.

In May 2008, an action, National Committee to Preserve Social Security, et al. v. Philip Morris USA, et al., was brought under the MSP statute in United States District Court for the Eastern District of New York. This action was brought by the same plaintiffs as National Committee I and similarly purports to be brought on behalf of Medicare to recover an unspecified amount of damages equal to double the amount paid by Medicare for smoking-related health care services provided from May 21, 2002 to the present. In July 2008, defendants filed a motion to dismiss plaintiffs’ claims and plaintiffs filed a motion for partial summary judgment. In March 2009, the court granted defendants’ motion to dismiss. Plaintiffs noticed an appeal in May 2009. In February 2010, defendants moved to dismiss the individual plaintiff’s appeal. In October 2010, the United States Court of Appeals for the Second Circuit dismissed plaintiffs’ complaint for lack of subject matter jurisdiction. The plaintiffs subsequently filed a petition for rehearing en banc with the Court of Appeals, which petition was denied on November 22, 2010. On December 22, 2010, the district court entered an order dismissing the case.

In addition to the cases brought in the United States, health care cost recovery actions have also been brought against tobacco industry participants, including PM USA and Altria Group, Inc., in Israel (1), the Marshall Islands (1 dismissed), and Canada (3), and other entities have stated that they are considering filing such actions. In the case in Israel, the defendants’ appeal of the district court’s denial of their motion to dismiss was heard by the Israel Supreme Court in March 2005, and the parties are awaiting the court’s decision. In September 2005, in the first of the three health care cost recovery cases filed in Canada, the Canadian Supreme Court ruled that legislation passed in British Columbia permitting the lawsuit is constitutional, and, as a result, the case, which had previously been dismissed by the trial court, was permitted to proceed. PM USA’s and other defendants’ challenge to the British Columbia court’s exercise of jurisdiction was rejected by the Court of Appeals of British Columbia and, in April 2007, the Supreme Court of Canada denied review of that decision. In December 2009, the Court of Appeals of British Columbia ruled that certain defendants can proceed against the Federal Government of Canada as third parties on the theory that the Federal Government of Canada negligently misrepresented to defendants the efficacy of a low tar tobacco variety that the Federal Government of Canada developed and licensed to defendants. In May 2010, the Supreme Court of Canada granted leave to the Federal Government of Canada to appeal this

 

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decision and leave to defendants to cross-appeal the Court of Appeals’ decision to dismiss claims against the Federal Government of Canada based on other theories of liability. The Supreme Court of Canada is scheduled to hear the appeal in February 2011. During 2008, the Province of New Brunswick, Canada, proclaimed into law previously adopted legislation allowing reimbursement claims to be brought against cigarette manufacturers, and it filed suit shortly thereafter. In September 2009, the Province of Ontario, Canada, filed suit against a number of cigarette manufacturers based on previously adopted legislation nearly identical in substance to the New Brunswick health care cost recovery legislation. PM USA is named as a defendant in the British Columbia case, while Altria Group, Inc. and PM USA are named as defendants in the New Brunswick and Ontario cases. Several other provinces and territories in Canada have enacted similar legislation or are in the process of enacting similar legislation. See “Guarantees” for a discussion of the Distribution Agreement between Altria Group, Inc. and PMI that provides for indemnities for certain liabilities concerning tobacco products.

Settlements of Health Care Cost Recovery Litigation

In November 1998, PM USA and certain other United States tobacco product manufacturers entered into the MSA with 46 states, the District of Columbia, Puerto Rico, Guam, the United States Virgin Islands, American Samoa and the Northern Marianas to settle asserted and unasserted health care cost recovery and other claims. PM USA and certain other United States tobacco product manufacturers had previously settled similar claims brought by Mississippi, Florida, Texas and Minnesota (together with the MSA, the “State Settlement Agreements”). The State Settlement Agreements require that the original participating manufacturers make substantial annual payments of approximately $9.4 billion each year, subject to adjustments for several factors, including inflation, market share and industry volume. In addition, the original participating manufacturers are required to pay settling plaintiffs’ attorneys’ fees, subject to an annual cap of $500 million. For the years ended December 31, 2010 and December 31, 2009, the aggregate amount recorded in cost of sales with respect to the State Settlement Agreements and the Fair and Equitable Tobacco Reform Act of 2004 (“FETRA”) was approximately $4.8 billion and $5.0 billion, respectively.

The State Settlement Agreements also include provisions relating to advertising and marketing restrictions, public disclosure of certain industry documents, limitations on challenges to certain tobacco control and underage use laws, restrictions on lobbying activities and other provisions.

Possible Adjustments in MSA Payments for 2003 to 2009

Pursuant to the provisions of the MSA, domestic tobacco product manufacturers, including PM USA, who are original signatories to the MSA (the “Original Participating Manufacturers” or “OPMs”) are participating in proceedings that may result in downward adjustments to the amounts paid by the OPMs and the other MSA-participating manufacturers to the states and territories that are parties to the MSA for each of the years 2003 to 2009. The proceedings relate to an MSA payment adjustment (the “NPM Adjustment”) based on the collective loss of market share for the relevant year by all participating manufacturers who are subject to the payment obligations and marketing restrictions of the MSA to non-participating manufacturers (“NPMs”) who are not subject to such obligations and restrictions.

As part of these proceedings, an independent economic consulting firm jointly selected by the MSA parties or otherwise selected pursuant to the MSA’s provisions is required to determine whether the disadvantages of the MSA were a “significant factor” contributing to the participating

 

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manufacturers’ collective loss of market share for the year in question. If the firm determines that the disadvantages of the MSA were such a “significant factor,” each state may avoid a downward adjustment to its share of the participating manufacturers’ annual payments for that year by establishing that it diligently enforced a qualifying escrow statute during the entirety of that year. Any potential downward adjustment would then be reallocated to any states that do not establish such diligent enforcement. PM USA believes that the MSA’s arbitration clause requires a state to submit its claim to have diligently enforced a qualifying escrow statute to binding arbitration before a panel of three former federal judges in the manner provided for in the MSA. A number of states have taken the position that this claim should be decided in state court on a state-by-state basis.

In March 2006, an independent economic consulting firm determined that the disadvantages of the MSA were a significant factor contributing to the participating manufacturers’ collective loss of market share for the year 2003. In February 2007, this same firm determined that the disadvantages of the MSA were a significant factor contributing to the participating manufacturers’ collective loss of market share for the year 2004. In February 2008, the same economic consulting firm determined that the disadvantages of the MSA were a significant factor contributing to the participating manufacturers’ collective loss of market share for the year 2005. A different economic consulting firm was selected to make the “significant factor” determination regarding the participating manufacturers’ collective loss of market share for the year 2006. In March 2009, this firm determined that the disadvantages of the MSA were a significant factor contributing to the participating manufacturers’ collective loss of market share for the year 2006. Following the firm’s determination for 2006, the OPMs and the states agreed that the states would not contest that the disadvantages of the MSA were a significant factor contributing to the participating manufacturers’ collective loss of market share for the years 2007, 2008 and 2009. Accordingly, the OPMs and the states have agreed that no “significant factor” determination by the firm will be necessary with respect to the participating manufacturers’ collective loss of market share for the years 2007, 2008 and 2009. This agreement became effective for 2007 on February 1, 2010 and will become effective for 2008 and 2009 on February 1, 2011 and February 1, 2012, respectively.

Following the economic consulting firm’s determination with respect to 2003, thirty-eight states filed declaratory judgment actions in state courts seeking a declaration that the state diligently enforced its escrow statute during 2003. The OPMs and other MSA-participating manufacturers responded to these actions by filing motions to compel arbitration in accordance with the terms of the MSA, including filing motions to compel arbitration in eleven MSA states and territories that did not file declaratory judgment actions. Courts in all but one of the forty-six MSA states and the District of Columbia and Puerto Rico have ruled that the question of whether a state diligently enforced its escrow statute during 2003 is subject to arbitration. One state court (in State of Montana) has ruled that the diligent enforcement claims of that state may be litigated in state court, rather than in arbitration. Several of these rulings may be subject to further review. In January 2010, the OPMs filed a petition for a writ of certiorari in the United States Supreme Court seeking further review of the one decision holding that a state’s diligent enforcement claims may be litigated in state court, rather than in arbitration. The petition was denied in June 2010. Following the denial of this petition, Montana renewed an action in its state court seeking a declaratory judgment that it diligently enforced its escrow statute during 2003 and other relief. The OPMs have moved to stay that action. Argument on the motion occurred in October 2010.

 

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PM USA, the other OPMs and approximately twenty-five other MSA-participating manufacturers have entered into an agreement regarding arbitration with forty-five MSA states concerning the 2003 NPM Adjustment, including the states’ claims of diligent enforcement for 2003. The agreement further provides for a partial liability reduction for the 2003 NPM Adjustment for states that entered into the agreement by January 30, 2009 and are determined in the arbitration not to have diligently enforced a qualifying escrow statute during 2003. Based on the number of states that entered into the agreement by January 30, 2009 (forty-five), the partial liability reduction for those states is 20%. The partial liability reduction would reduce the amount of PM USA’s 2003 NPM Adjustment by up to a corresponding percentage. The selection of the arbitration panel for the 2003 NPM Adjustment was completed in July 2010, and the arbitration is currently ongoing. Proceedings to determine state diligent enforcement claims for the years 2004 through 2009 have not yet been scheduled.

Once a significant factor determination in favor of the participating manufacturers for a particular year has been made by the economic consulting firm, or the states’ agreement not to contest significant factor for a particular year has become effective, PM USA has the right under the MSA to pay the disputed amount of the NPM Adjustment for that year into a disputed payments account or withhold it altogether. To date, PM USA has made its full MSA payment each year to the states (subject to a right to recoup the NPM Adjustment amount in the form of a credit against future MSA payments), even though it had the right to deduct the disputed amounts of the 2003 – 2007 NPM Adjustments, as described above, from its MSA payments due in the years 2006 – 2010, respectively. The approximate maximum principal amounts of PM USA’s share of the disputed NPM Adjustment for the years 2003 through 2009, as currently calculated by the MSA’s Independent Auditor, are as follows (these amounts do not include interest, which PM USA believes accrues at the prime rate from the payment date for the year for which the NPM Adjustment is calculated):

 

Year for which NPM Adjustment calculated			2003				2004				2005				2006				2007				2008				2009
Year in which deduction for NPM Adjustment may be taken			2006				2007				2008				2009				2010				2011				2012
PM USA’s Approximate Share of Disputed NPM Adjustment (in millions)		$	337			$	388			$	181			$	156			$	209			$	266			$	202

The foregoing amounts may be recalculated by the Independent Auditor if it receives information that is different from or in addition to the information on which it based these calculations, including, among other things, if it receives revised sales volumes from any participating manufacturer. Disputes among the manufacturers could also reduce the foregoing amounts. The availability and the precise amount of any NPM Adjustment for 2003, 2004, 2005, 2006, 2007, 2008 and 2009 will not be finally determined until late 2011 or thereafter. There is no certainty that the OPMs and other MSA-participating manufacturers will ultimately receive any adjustment as a result of these proceedings, and the amount of any adjustment received for a year could be less than the amount for that year listed above. If the OPMs do receive such an adjustment through these proceedings, the adjustment would be allocated among the OPMs pursuant to the MSA’s provisions, and PM USA would receive its share of any adjustments in the form of a credit against future MSA payments.

 

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Other MSA-Related Litigation

PM USA was named as a defendant in an action (Vibo) brought in October 2008 in federal court in Kentucky by an MSA participating manufacturer that is not an OPM. Other defendants include various other participating manufacturers and the Attorneys General of all 52 states and territories that are parties to the MSA. The plaintiff alleged that certain of the MSA’s payment provisions discriminate against it in favor of certain other participating manufacturers in violation of the federal antitrust laws and the United States Constitution. The plaintiff also sought injunctive relief, alteration of certain MSA payment provisions as applied to it, treble damages under the federal antitrust laws, and/or rescission of its joinder in the MSA. The plaintiff also filed a motion for a preliminary injunction enjoining the states from enforcing the allegedly discriminatory payment provisions against it during the pendency of the action. In January 2009, the district court dismissed the complaint and denied plaintiff’s request for preliminary injunctive relief. In January 2010, the court entered final judgment dismissing the case. Plaintiff has appealed this decision to the United States Court of Appeals for the Sixth Circuit.

Without naming PM USA or any other private party as a defendant, NPMs and/or their distributors or customers have filed several legal challenges to the MSA and related legislation. New York state officials are defendants in a lawsuit (Freedom Holdings) filed in the United States District Court for the Southern District of New York in which cigarette importers allege that the MSA and/or related legislation violates federal antitrust laws and the Commerce Clause of the United States Constitution. In a separate proceeding pending in the same court (Pryor), plaintiffs assert the same theories against not only New York officials but also the Attorneys General for thirty other states. The United States Court of Appeals for the Second Circuit has held that the allegations in both actions, if proven, establish a basis for relief on antitrust and Commerce Clause grounds and that the trial courts in New York have personal jurisdiction sufficient to enjoin other states’ officials from enforcing their MSA-related legislation. On remand in Freedom Holdings, the trial court granted summary judgment for the New York officials and lifted a preliminary injunction against New York officials’ enforcement against plaintiffs of the state’s “allocable share” amendment to the MSA’s Model Escrow Statute. The United States Court of Appeals for the Second Circuit affirmed that decision in October 2010. Plaintiffs have notified the United States Supreme Court that they will petition for a writ of certiorari. Any petition is due by March 16, 2011. On remand in Pryor, the trial court held that plaintiffs are unlikely to succeed on the merits and refused to enjoin the enforcement of New York’s allocable share amendment to the MSA’s Model Escrow Statute. That decision was affirmed by the United States Court of Appeals for the Second Circuit. The parties in that case have filed cross-motions for summary judgment, and the trial court heard oral argument on those motions in April 2010.

In another action (Xcaliber), the United States Court of Appeals for the Fifth Circuit reversed a trial court’s dismissal of challenges to MSA-related legislation in Louisiana under the First and Fourteenth Amendments to the United States Constitution. On remand in that case, and in another case filed against the Louisiana Attorney General (S&M Brands), trial courts have granted summary judgment for the Louisiana Attorney General. The United States Court of Appeals for the Fifth Circuit affirmed those judgments in decisions issued in July 2010 and August 2010. Plaintiffs in the S&M Brands case filed a petition for a writ of certiorari in the United States Supreme Court on November 8, 2010.

 

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In addition to the Second and Fifth Circuit decisions above, the United States Courts of Appeals for the Sixth, Eighth, Ninth and Tenth Circuits have affirmed dismissals or grants of summary judgment in favor of state officials in four other cases asserting antitrust and constitutional challenges to the allocable share amendment legislation in those states.

Another proceeding (Grand River) has been initiated before an international arbitration tribunal under the provisions of the North American Free Trade Agreement. A hearing on the merits concluded in February 2010. On January 12, 2011, the arbitration tribunal rejected the claims against the United States challenging MSA-related legislation in various states.

Federal Government’s Lawsuit

In 1999, the United States government filed a lawsuit in the United States District Court for the District of Columbia against various cigarette manufacturers, including PM USA, and others, including Altria Group, Inc. asserting claims under three federal statutes, namely the Medical Care Recovery Act (“MCRA”), the MSP provisions of the Social Security Act and the civil provisions of RICO. Trial of the case ended in June 2005. The lawsuit sought to recover an unspecified amount of health care costs for tobacco-related illnesses allegedly caused by defendants’ fraudulent and tortious conduct and paid for by the government under various federal health care programs, including Medicare, military and veterans’ health benefits programs, and the Federal Employees Health Benefits Program. The complaint alleged that such costs total more than $20 billion annually. It also sought what it alleged to be equitable and declaratory relief, including disgorgement of profits which arose from defendants’ allegedly tortious conduct, an injunction prohibiting certain actions by the defendants, and a declaration that the defendants are liable for the federal government’s future costs of providing health care resulting from defendants’ alleged past tortious and wrongful conduct. In September 2000, the trial court dismissed the government’s MCRA and MSP claims, but permitted discovery to proceed on the government’s claims for relief under the civil provisions of RICO.

The government alleged that disgorgement by defendants of approximately $280 billion is an appropriate remedy. In May 2004, the trial court issued an order denying defendants’ motion for partial summary judgment limiting the disgorgement remedy. In February 2005, a panel of the United States Court of Appeals for the District of Columbia Circuit held that disgorgement is not a remedy available to the government under the civil provisions of RICO and entered summary judgment in favor of defendants with respect to the disgorgement claim. In April 2005, the Court of Appeals denied the government’s motion for rehearing. In July 2005, the government petitioned the United States Supreme Court for further review of the Court of Appeals’ ruling that disgorgement is not an available remedy, and in October 2005, the Supreme Court denied the petition.

In June 2005, the government filed with the trial court its proposed final judgment seeking remedies of approximately $14 billion, including $10 billion over a five-year period to fund a national smoking cessation program and $4 billion over a ten-year period to fund a public education and counter-marketing campaign. Further, the government’s proposed remedy would have required defendants to pay additional monies to these programs if targeted reductions in the smoking rate of those under 21 are not achieved according to a prescribed timetable. The government’s proposed remedies also included a series of measures and restrictions applicable to cigarette business operations—including, but not limited to, restrictions on advertising and marketing,

 

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potential measures with respect to certain price promotional activities and research and development, disclosure requirements for certain confidential data and implementation of a monitoring system with potential broad powers over cigarette operations.

In August 2006, the federal trial court entered judgment in favor of the government. The court held that certain defendants, including Altria Group, Inc. and PM USA, violated RICO and engaged in 7 of the 8 “sub-schemes” to defraud that the government had alleged. Specifically, the court found that:

 

•

defendants falsely denied, distorted and minimized the significant adverse health consequences of smoking;

 

•

defendants hid from the public that cigarette smoking and nicotine are addictive;

 

•

defendants falsely denied that they control the level of nicotine delivered to create and sustain addiction;

 

•

defendants falsely marketed and promoted “low tar/light” cigarettes as less harmful than full-flavor cigarettes;

 

•

defendants falsely denied that they intentionally marketed to youth;

 

•

defendants publicly and falsely denied that ETS is hazardous to non-smokers; and

 

•

defendants suppressed scientific research.

The court did not impose monetary penalties on the defendants, but ordered the following relief: (i) an injunction against “committing any act of racketeering” relating to the manufacturing, marketing, promotion, health consequences or sale of cigarettes in the United States; (ii) an injunction against participating directly or indirectly in the management or control of the Council for Tobacco Research, the Tobacco Institute, or the Center for Indoor Air Research, or any successor or affiliated entities of each; (iii) an injunction against “making, or causing to be made in any way, any material false, misleading, or deceptive statement or representation or engaging in any public relations or marketing endeavor that is disseminated to the United States public and that misrepresents or suppresses information concerning cigarettes”; (iv) an injunction against conveying any express or implied health message through use of descriptors on cigarette packaging or in cigarette advertising or promotional material, including “lights,” “ultra lights” and “low tar,” which the court found could cause consumers to believe one cigarette brand is less hazardous than another brand; (v) the issuance of “corrective statements” in various media regarding the adverse health effects of smoking, the addictiveness of smoking and nicotine, the lack of any significant health benefit from smoking “low tar” or “light” cigarettes, defendants’ manipulation of cigarette design to ensure optimum nicotine delivery and the adverse health effects of exposure to environmental tobacco smoke; (vi) the disclosure on defendants’ public document websites and in the Minnesota document repository of all documents produced to the government in the lawsuit or produced in any future court or administrative action concerning smoking and health until 2021, with certain additional requirements as to documents withheld from production under a claim of privilege or confidentiality; (vii) the disclosure of disaggregated marketing data to the government in the same form and on the same schedule as defendants now follow in disclosing such data to the Federal Trade Commission (“FTC”) for a period of ten years; (viii) certain restrictions on the

 

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sale or transfer by defendants of any cigarette brands, brand names, formulas or cigarette businesses within the United States; and (ix) payment of the government’s costs in bringing the action.

In September 2006, defendants filed notices of appeal to the United States Court of Appeals for the District of Columbia Circuit and in October 2006, a three judge panel of the Court of Appeals stayed the trial court’s judgment pending its review of the decision. Certain defendants, including PM USA and Altria Group, Inc., filed a motion to clarify the trial court’s August 2006 Final Judgment and Remedial Order. In March 2007, the trial court denied in part and granted in part defendants’ post-trial motion for clarification of portions of the court’s remedial order.

In May 2009 a three judge panel of the Court of Appeals for the District of Columbia Circuit issued a per curiam decision largely affirming the trial court’s judgment against defendants and in favor of the government. Although the panel largely affirmed the remedial order that was issued by the trial court, it vacated the following aspects of the order:

 

•

its application to defendants’ subsidiaries;

 

•

the prohibition on the use of express or implied health messages or health descriptors, but only to the extent of extraterritorial application;

 

•

its point-of-sale display provisions; and

 

•

its application to Brown & Williamson Holdings.

The Court of Appeals panel remanded the case for the trial court to reconsider these four aspects of the injunction and to reformulate its remedial order accordingly.

Furthermore, the Court of Appeals panel rejected all of the government’s and intervenors’ cross appeal arguments and refused to broaden the remedial order entered by the trial court. The Court of Appeals panel also left undisturbed its prior holding that the government cannot obtain disgorgement as a permissible remedy under RICO.

In July 2009, defendants filed petitions for a rehearing before the panel and for a rehearing by the entire Court of Appeals. Defendants also filed a motion to vacate portions of the trial court’s judgment on the grounds of mootness because of the passage of legislation granting FDA broad authority over the regulation of tobacco products. In September 2009, the Court of Appeals entered three per curiam rulings. Two of them denied defendants’ petitions for panel rehearing or for rehearing en banc. In the third per curiam decision, the Court of Appeals denied defendants’ suggestion of mootness and motion for partial vacatur. The Court of Appeals subsequently granted motions staying the issuance of its mandate pending the filing and disposition of petitions for writs of certiorari to the United States Supreme Court. In February 2010, PM USA and Altria Group, Inc. filed their certiorari petitions with the United States Supreme Court. In addition, the federal government and the intervenors filed their own certiorari petitions, asking the court to reverse an earlier Court of Appeals decision and hold that civil RICO allows the trial court to order disgorgement as well as other equitable relief, such as smoking cessation remedies, designed to redress continuing consequences of prior RICO violations. In June 2010, the United States Supreme Court denied all of the parties’

 

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petitions. In July 2010, the Court of Appeals issued its mandate lifting the stay of the trial court’s judgment and remanding the case to the trial court.

As a result of the mandate, except for those matters remanded to the trial court for further proceedings, defendants are now subject to the injunction discussed above and the other elements of the trial court’s judgment. In September 2010, the trial court held a status conference to hear the parties’ preliminary views regarding the remaining issues to be addressed on remand. These issues include the placement and content of corrective communications, the exclusivity of the court’s jurisdiction to enforce the injunction, document coding and the maintenance of a document depository. A subsequent status conference was held on December 20, 2010. On December 22, 2010, the Court issued an order that, among other things: (1) scheduled the next status conference on February 22, 2011; (2) ordered the government to submit its proposed corrective statements by February 3, 2011; (3) ordered the parties to file a joint status report by February 3, 2011 regarding the degree to which they have reached agreement on a number of issues; and (4) confirmed that the Council for Tobacco Research and the Tobacco Institute are dismissed from the case.

“Lights/Ultra Lights” Cases

Overview

Plaintiffs in certain pending matters seek certification of their cases as class actions and allege, among other things, that the uses of the terms “Lights” and/or “Ultra Lights” constitute deceptive and unfair trade practices, common law fraud, or RICO violations, and seek injunctive and equitable relief, including restitution and, in certain cases, punitive damages. These class actions have been brought against PM USA and, in certain instances, Altria Group, Inc. or its subsidiaries, on behalf of individuals who purchased and consumed various brands of cigarettes, including Marlboro Lights, Marlboro Ultra Lights, Virginia Slims Lights and Superslims, Merit Lights and Cambridge Lights. Defenses raised in these cases include lack of misrepresentation, lack of causation, injury, and damages, the statute of limitations, express preemption by the Federal Cigarette Labeling and Advertising Act (“FCLAA”) and implied preemption by the policies and directives of the FTC, non-liability under state statutory provisions exempting conduct that complies with federal regulatory directives, and the First Amendment. As of December 31, 2010, a total of twenty-seven such cases were pending in the United States. Seventeen of these cases were pending in a multidistrict litigation proceeding in a single U.S. federal court as discussed below. The other cases were pending in various U.S. state courts. In addition, a purported “Lights” class action is pending against PM USA in Israel. Other entities have stated that they are considering filing such actions against Altria Group, Inc. and PM USA.

In the one “Lights” case pending in Israel, hearings on plaintiffs’ motion for class certification were held in November and December 2008. See “Guarantees” for a discussion of the Distribution Agreement between Altria Group, Inc. and PMI that provides for indemnities for certain liabilities concerning tobacco products.

The Good Case

In May 2006, a federal trial court in Maine granted PM USA’s motion for summary judgment in Good, a purported “Lights” class action, on the grounds that plaintiffs’ claims are preempted by the FCLAA and dismissed the case. In August 2007, the United States Court of Appeals for the

 

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First Circuit vacated the district court’s grant of PM USA’s motion for summary judgment on federal preemption grounds and remanded the case to district court. The district court stayed the case pending the United States Supreme Court’s ruling on defendants’ petition for writ of certiorari with the United States Supreme Court, which was granted in January 2008. The case was stayed pending the United States Supreme Court’s decision. In December 2008, the United States Supreme Court ruled that plaintiffs’ claims are not barred by federal preemption. Although the Court rejected the argument that the FTC’s actions were so extensive with respect to the descriptors that the state law claims were barred as a matter of federal law, the Court’s decision was limited: it did not address the ultimate merits of plaintiffs’ claim, the viability of the action as a class action, or other state law issues. The case has been returned to the federal court in Maine for further proceedings and has been consolidated with other federal cases in the multidistrict litigation proceeding discussed below.

Certain Developments Since December 2008 Good Decision

Since the December 2008 U.S. Supreme Court decision in Good, and through December 31, 2010, twenty-four purported “Lights” class actions were served upon PM USA and Altria Group, Inc. These cases were filed in 14 states, the U.S. Virgin Islands and the District of Columbia. All of these cases either were filed in federal court or were removed to federal court by PM USA.

A number of purported “Lights” class actions have been transferred and consolidated by the Judicial Panel on Multidistrict Litigation (“JPMDL”) before the U.S. District Court for the District of Maine for pretrial proceedings (“MDL proceeding”). As of December 31, 2010, seventeen cases against Altria Group, Inc. and/or PM USA were pending in or awaiting transfer to the MDL proceeding. These cases, and the states in which each originated, are: Biundo (Illinois), Calistro (U.S. Virgin Islands) (discussed above), Corse (Tennessee), Domaingue (New York), Good (Maine), Haubrich (Pennsylvania), McClure (Tennessee), Mirick (Mississippi), Mulford (New Mexico), Parsons (District of Columbia), Phillips (Ohio), Slater (District of Columbia), Tang (New York), Tyrer (California), Williams (Arkansas) and Wyatt (Wisconsin). On November 22, 2010, the district court in the MDL proceeding remanded the Watson case to Arkansas state court.

In November 2009, plaintiffs in the MDL proceeding filed a motion seeking collateral estoppel effect from the findings in the case brought by the Department of Justice (see Federal Government’s Lawsuit described above), which motion was denied in March 2010. In May 2010, July 2010 and September 2010, the district court denied all of PM USA’s summary judgment motions. On November 24, 2010, the district court denied plaintiffs’ motion for class certification in four cases, covering the jurisdictions of California, the District of Columbia, Illinois and Maine. These jurisdictions were selected by the parties as sample cases, with two selected by plaintiffs and two selected by defendants. Plaintiffs have sought appellate review of this decision.

“Lights” Cases Dismissed, Not Certified or Ordered De-Certified

To date, in addition to the district court in the MDL proceeding, 15 courts in 16 “Lights” cases have refused to certify class actions, dismissed class action allegations, reversed prior class certification decisions or have entered judgment in favor of PM USA.

Trial courts in Arizona, Illinois, Kansas, New Jersey, New Mexico, Oregon, Tennessee and Washington have refused to grant class certification or have dismissed plaintiffs’ class action

 

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allegations. Plaintiffs voluntarily dismissed a case in Michigan after a trial court dismissed the claims plaintiffs asserted under the Michigan Unfair Trade and Consumer Protection Act.

Several appellate courts have issued rulings that either affirmed rulings in favor of Altria Group, Inc. and/or PM USA or reversed rulings entered in favor of plaintiffs. In Florida, an intermediate appellate court overturned an order by a trial court that granted class certification in Hines. The Florida Supreme Court denied review in January 2008. The Supreme Court of Illinois has overturned a judgment that awarded damages to a certified class in the Price case. See The Price Case below for further discussion. In Louisiana, the United States Court of Appeals for the Fifth Circuit dismissed a purported “Lights” class action brought in Louisiana federal court (Sullivan) on the grounds that plaintiffs’ claims were preempted by the FCLAA. In New York, the United States Court of Appeals for the Second Circuit overturned a decision by a New York trial court in Schwab that denied defendants’ summary judgment motions and granted plaintiffs’ motion for certification of a nationwide class of all United States residents that purchased cigarettes in the United States that were labeled “Light” or “Lights.” In July 2010, plaintiffs in Schwab voluntarily dismissed the case with prejudice. In Ohio, the Ohio Supreme Court overturned class certifications in the Marrone and Phillips cases. Plaintiffs voluntarily dismissed both cases in August 2009. The Supreme Court of Washington denied a motion for interlocutory review filed by the plaintiffs in the Davies case that sought review of an order by the trial court that refused to certify a class. Plaintiffs subsequently voluntarily dismissed the Davies case with prejudice. Plaintiffs in the New Mexico case (Mulford) renewed their motion for class certification, which motion was denied by the federal district court in March 2009, with leave to file a new motion for class certification.

In Oregon (Pearson), a state court denied plaintiff’s motion for interlocutory review of the trial court’s refusal to certify a class. In February 2007, PM USA filed a motion for summary judgment based on federal preemption and the Oregon statutory exemption. In September 2007, the district court granted PM USA’s motion based on express preemption under the FCLAA, and plaintiffs appealed this dismissal and the class certification denial to the Oregon Court of Appeals. Argument was held in April 2010.

In Cleary, which was pending in an Illinois federal court, the district court dismissed plaintiffs’ “Lights” claims against one defendant and denied plaintiffs’ request to remand the case to state court. In September 2009, the court issued its ruling on PM USA’s and the remaining defendants’ motion for summary judgment as to all “Lights” claims. The court granted the motion as to all defendants except PM USA. As to PM USA, the court granted the motion as to all “Lights” and other low tar brands other than Marlboro Lights. As to Marlboro Lights, the court ordered briefing on why the 2002 state court order dismissing the Marlboro Lights claims should not be vacated based upon Good. In January 2010, the court vacated the previous dismissal. In February 2010, the court granted summary judgment in favor of defendants as to all claims except for the Marlboro Lights claims, based on the statute of limitations and deficiencies relating to the named plaintiffs. In June 2010, the court granted summary judgment in favor of all defendants on all remaining claims, dismissing the case. In July 2010, plaintiffs filed a motion for reconsideration with the district court, which was denied. In August 2010, plaintiffs filed an appeal with the United States Court of Appeals for the Seventh Circuit.

Other Developments

 

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In December 2009, the state trial court in the Holmes case (pending in Delaware), denied PM USA’s motion for summary judgment based on an exemption provision in the Delaware Consumer Fraud Act.

In June 2007, the United States Supreme Court reversed the lower court rulings in the Watson case that denied plaintiffs’ motion to have the case heard in a state, as opposed to federal, trial court. The Supreme Court rejected defendant’s contention that the case must be tried in federal court under the “federal officer” statute. The case was removed to federal court in Arkansas and the case was transferred to the MDL proceeding discussed above. In October 2010, the JPMDL denied plaintiffs’ motion to remand the case to state court and to vacate the transfer order. As discussed above, on November 22, 2010, the district court in the MDL proceeding remanded the Watson case to Arkansas state court.

The Price Case

Trial in the Price case commenced in state court in Illinois in January 2003, and in March 2003, the judge found in favor of the plaintiff class and awarded $7.1 billion in compensatory damages and $3 billion in punitive damages against PM USA. In connection with the judgment, PM USA deposited into escrow various forms of collateral, including cash and negotiable instruments. In December 2005, the Illinois Supreme Court issued its judgment, reversing the trial court’s judgment in favor of the plaintiffs and directing the trial court to dismiss the case. In May 2006, the Illinois Supreme Court denied plaintiffs’ motion for re-hearing, in November 2006, the United States Supreme Court denied plaintiffs’ petition for writ of certiorari and, in December 2006, the Circuit Court of Madison County enforced the Illinois Supreme Court’s mandate and dismissed the case with prejudice. In January 2007, plaintiffs filed a motion to vacate or withhold judgment based upon the United States Supreme Court’s grant of the petition for writ of certiorari in Watson (described above). In May 2007, PM USA filed applications for a writ of mandamus or a supervisory order with the Illinois Supreme Court seeking an order compelling the lower courts to deny plaintiffs’ motion to vacate and/or withhold judgment. In August 2007, the Illinois Supreme Court granted PM USA’s motion for supervisory order and the trial court dismissed plaintiff’s motion to vacate or withhold judgment. The collateral that PM USA deposited into escrow after the initial 2003 judgment was released and returned to PM USA.

In December 2008, plaintiffs filed with the trial court a petition for relief from the final judgment that was entered in favor of PM USA. Specifically, plaintiffs sought to vacate the 2005 Illinois Supreme Court judgment, contending that the United States Supreme Court’s December 2008 decision in Good demonstrated that the Illinois Supreme Court’s decision was “inaccurate.” PM USA filed a motion to dismiss plaintiffs’ petition and, in February 2009, the trial court granted PM USA’s motion. In March 2009, the Price plaintiffs filed a notice of appeal with the Fifth Judicial District of the Appellate Court of Illinois. Argument was held in February 2010.

In June 2009, the plaintiff in an individual smoker lawsuit (Kelly) brought on behalf of an alleged smoker of “Lights” cigarettes in Madison County, Illinois state court filed a motion seeking a declaration that (1) his claims under the Illinois Consumer Fraud Act are not barred by the exemption in that statute based on his assertion that the Illinois Supreme Court’s decision in Price is no longer good law in light of the decisions by the U.S. Supreme Court in Good and Watson, and (2) their claims are not preempted in light of the U.S. Supreme Court’s decision in

 

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Good. In September 2009, the court granted plaintiff’s motion as to federal preemption, but denied it with respect to the state statutory exemption.

State Trial Court Class Certifications

State trial courts have certified classes against PM USA in Massachusetts (Aspinall), Minnesota (Curtis), Missouri (Larsen) and New Hampshire (Lawrence). Significant developments in these cases include:

 

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Aspinall: In August 2004, the Massachusetts Supreme Judicial Court affirmed the class certification order. In August 2006, the trial court denied PM USA’s motion for summary judgment and granted plaintiffs’ motion for summary judgment on the defenses of federal preemption and a state law exemption to Massachusetts’ consumer protection statute. On motion of the parties, the trial court subsequently reported its decision to deny summary judgment to the appeals court for review and stayed further proceedings pending completion of the appellate review. In December 2008, subsequent to the United States Supreme Court’s decision in Good, the Massachusetts Supreme Judicial Court issued an order requesting that the parties advise the court within 30 days whether the Good decision is dispositive of federal preemption issues pending on appeal. In January 2009, PM USA notified the Massachusetts Supreme Judicial Court that Good is dispositive of the federal preemption issues on appeal, but requested further briefing on the state law statutory exemption issue. In March 2009, the Massachusetts Supreme Judicial Court affirmed the order denying summary judgment to PM USA and granting the plaintiffs’ cross-motion. In January 2010, plaintiffs moved for partial summary judgment as to liability claiming collateral estoppel from the findings in the case brought by the Department of Justice (see Federal Government’s Lawsuit described above).

 

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Curtis: In April 2005, the Minnesota Supreme Court denied PM USA’s petition for interlocutory review of the trial court’s class certification order. In October 2009, the trial court denied plaintiffs’ motion for partial summary judgment, filed in February 2009, claiming collateral estoppel from the findings in the case brought by the Department of Justice (see Federal Government’s Lawsuit described above). In October 2009, the trial court granted PM USA’s motion for partial summary judgment, filed in August 2009, as to all consumer protection counts and, in December 2009, dismissed the case in its entirety. On December 28, 2010, the Minnesota Court of Appeals reversed the trial court’s dismissal of the case and affirmed the trial court’s prior certification of the class under Minnesota’s consumer protection statutes. The Court of Appeals also reversed the trial court’s denial of Altria Group, Inc.’s motion to dismiss for lack of personal jurisdiction, thereby removing Altria Group, Inc. from the case, and affirmed the trial court’s denial of the plaintiffs’ motion for partial summary judgment claiming collateral estoppel from the findings in the case brought by the Department of Justice. PM USA is seeking further review before the Minnesota Supreme Court on January 27, 2011.

 

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Larsen: In August 2005, a Missouri Court of Appeals affirmed the class certification order. In December 2009, the trial court denied plaintiff’s motion for reconsideration of the period during which potential class members can qualify to become part of the class. The class period remains 1995 – 2003. In June 2010, PM USA’s motion for partial summary judgment regarding plaintiffs’ request for punitive damages was denied. In April 2010, plaintiffs moved for partial summary judgment as to an element of liability in the case, claiming collateral estoppel from the findings in the case brought by the Department of Justice (see Federal Government’s Lawsuit described above). The plaintiffs’ motion was

 

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denied on December 28, 2010. In July 2010, the parties stipulated to the dismissal of Altria Group, Inc. as a defendant in the case. PM USA remains a defendant. The case is tentatively set for trial in September 2011.

 

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Lawrence: On November 22, 2010, the trial court certified a class consisting of all persons who purchased Marlboro Lights cigarettes in the state of New Hampshire at any time from the date the brand was introduced into commerce until the date trial in the case begins. Both parties’ motions for reconsideration of this decision were denied on January 12, 2011. PM USA is seeking further review before the New Hampshire Supreme Court.

Certain Other Tobacco-Related Litigation

Tobacco Price Case: As of December 31, 2010, one case remains pending in Kansas (Smith) in which plaintiffs allege that defendants, including PM USA and Altria Group, Inc., conspired to fix cigarette prices in violation of antitrust laws. Plaintiffs’ motion for class certification has been granted. No trial date has been set.

Case Under the California Business and Professions Code: In June 1997, a lawsuit (Brown) was filed in California state court alleging that domestic cigarette manufacturers, including PM USA and others, have violated California Business and Professions Code Sections 17200 and 17500 regarding unfair, unlawful and fraudulent business practices. Class certification was granted as to plaintiffs’ claims that class members are entitled to reimbursement of the costs of cigarettes purchased during the class periods and injunctive relief. In September 2004, the trial court granted defendants’ motion for summary judgment as to plaintiffs’ claims attacking defendants’ cigarette advertising and promotion and denied defendants’ motion for summary judgment on plaintiffs’ claims based on allegedly false affirmative statements. Plaintiffs’ motion for rehearing was denied. In March 2005, the court granted defendants’ motion to decertify the class based on a California law, which inter alia limits the ability to bring a lawsuit to only those plaintiffs who have “suffered injury in fact” and “lost money or property” as a result of defendant’s alleged statutory violations (“Proposition 64”). In two July 2006 opinions, the California Supreme Court held Proposition 64 applicable to pending cases. Plaintiffs’ motion for reconsideration of the order that decertified the class was denied, and plaintiffs appealed.

In September 2006, an intermediate appellate court affirmed the trial court’s order decertifying the class. In May 2009, the California Supreme Court reversed the trial court decision that was affirmed by the appellate court and remanded the case to the trial court. Defendants filed a rehearing petition in June 2009. In August 2009, the California Supreme Court denied defendants’ rehearing petition and issued its mandate. In March 2010, the trial court granted reconsideration of its September 2004 order granting partial summary judgment to defendants with respect to plaintiffs’ “Lights” claims on the basis of judicial decisions issued since its order was issued, including the United States Supreme Court’s ruling in Good, thereby reinstating plaintiffs’ “Lights” claims. Since the trial court’s prior ruling decertifying the class was reversed on appeal by the California Supreme Court, the parties and the court are treating all claims currently being asserted by the plaintiffs as certified, subject, however, to defendants’ challenge to the class representatives’ standing to assert their claims. The class is defined as people who, at the time they were residents of California, smoked in California one or more cigarettes between June 10, 1993 and April 23, 2001, and who were exposed to defendants’ marketing and advertising activities in California. In July 2010, plaintiffs filed a motion seeking collateral estoppel effect from the findings in the case brought by the Department of Justice

 

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(see Federal Government’s Lawsuit described above). In September 2010, plaintiffs filed a motion for preliminary resolution of legal issues regarding restitutionary relief. The trial court denied both of plaintiffs’ motions on November 3, 2010. On November 5, 2010, defendants filed a motion seeking a determination that Brown class members who were also part of the class in Daniels (a previously disclosed consumer fraud case in which the California Supreme Court affirmed summary judgment in PM USA’s favor based on preemption and First Amendment grounds) are precluded by the Daniels judgment from recovering in Brown. This motion was denied on December 15, 2010. On December 15, 2010, defendants filed a motion for a determination that the class representatives lack standing and are not typical or adequate to represent the class. Argument on this motion is set for February 23, 2011. The case is scheduled for trial in May 2011.

Ignition Propensity Cases: PM USA is currently a defendant in two wrongful death actions in which plaintiffs contend that fires caused by cigarettes led to other individuals’ deaths. In one case pending in federal court in Massachusetts (Sarro), the district court in August 2009 granted in part PM USA’s motion to dismiss, but ruled that two claims unrelated to product design could go forward. On November 10, 2010, PM USA filed a motion for summary judgment. Argument is scheduled for March 2, 2011. In a Kentucky federal court case (Walker), the court dismissed plaintiffs’ claims in February 2009 and plaintiffs subsequently filed a notice of appeal. The appeal is pending before the United States Court of Appeals for the Sixth Circuit. Argument was held in October 2010.

UST Litigation

Types of Cases

Claims related to smokeless tobacco products generally fall within the following categories:

First, UST and/or its tobacco subsidiaries has been named in certain health care cost reimbursement/third-party recoupment/class action litigation against the major domestic cigarette companies and others seeking damages and other relief. The complaints in these cases on their face predominantly relate to the usage of cigarettes; within that context, certain complaints contain a few allegations relating specifically to smokeless tobacco products. These actions are in varying stages of pretrial activities.

Second, UST and/or its tobacco subsidiaries has been named in certain actions in West Virginia brought on behalf of individual plaintiffs against cigarette manufacturers, smokeless tobacco manufacturers, and other organizations seeking damages and other relief in connection with injuries allegedly sustained as a result of tobacco usage, including smokeless tobacco products. Included among the plaintiffs are five individuals alleging use of USSTC’s smokeless tobacco products and alleging the types of injuries claimed to be associated with the use of smokeless tobacco products. While certain of these actions had not been consolidated for pretrial and trial proceedings, USSTC, along with other non-cigarette manufacturers, has remained severed from such proceedings since December 2001.

Third, UST and/or its tobacco subsidiaries has been named in a number of other individual tobacco and health suits. Plaintiffs’ allegations of liability in these cases are based on various theories of recovery, such as negligence, strict liability, fraud, misrepresentation, design defect, failure to warn, breach of implied warranty, addiction, and breach of consumer protection statutes.

 

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Plaintiffs seek various forms of relief, including compensatory and punitive damages, and certain equitable relief, including but not limited to disgorgement. Defenses raised in these cases include lack of causation, assumption of the risk, comparative fault and/or contributory negligence, and statutes of limitations. USSTC is currently named in an action in Florida (Vassallo).

In October 2010, in an action in Connecticut (Hill), USSTC entered into a settlement agreement honoring a $5 million settlement offer it made to the plaintiff before the January 2009 acquisition of UST by Altria Group, Inc. The settlement amount was paid on November 22, 2010, concluding this litigation.

Certain Other Actions

IRS Challenges to PMCC Leases: The IRS concluded its examination of Altria Group, Inc.’s consolidated tax returns for the years 1996 through 1999, and issued a final Revenue Agent’s Report (“RAR”) in March 2006. The RAR disallowed tax benefits pertaining to certain PMCC LILO and SILO transactions, for the years 1996 through 1999. Altria Group, Inc. agreed with all conclusions of the RAR, with the exception of the disallowance of tax benefits pertaining to the LILO and SILO transactions. Altria Group, Inc. contests approximately $150 million of tax and net interest assessed and paid with regard to them.

In October 2006, Altria Group, Inc. filed a complaint in the United States District Court for the Southern District of New York to claim refunds on a portion of these tax payments and associated interest for the years 1996 and 1997. In July 2009, the jury returned a unanimous verdict in favor of the IRS and, in April 2010, after denying Altria Group, Inc.’s post-trial motions, the district court entered final judgment in favor of the IRS. Altria Group, Inc. filed an appeal with the United States Court of Appeals for the Second Circuit in June 2010.

In March 2008, Altria Group, Inc. filed a second complaint in the United States District Court for the Southern District of New York seeking a refund of the tax payments and associated interest for the years 1998 and 1999 attributable to the disallowance of tax benefits claimed in those years with respect to the leases subject to the jury verdict and with respect to certain other leases entered into in 1998 and 1999. In May 2009, the district court granted a stay pending the decision by the United States Court of Appeals for the Second Circuit in the case involving the 1996 and 1997 years.

In May 2010, Altria Group, Inc. executed a closing agreement with the IRS for the 2000-2003 years, which resolved various tax matters of Altria Group, Inc. and its former subsidiaries, with the exception of the LILO and SILO transactions. Altria Group, Inc. disputes the IRS’s disallowance of tax benefits related to the LILO and SILO transactions in the 2000-2003 years. Altria Group, Inc. intends to file a claim for refund of approximately $945 million of tax and associated interest paid in July 2010 in connection with the closing agreement, with respect to the LILO and SILO transactions that PMCC entered into during the 1996-2003 years. If the IRS disallows the claim, as anticipated, Altria Group, Inc. intends to commence litigation in federal court. Altria Group, Inc. and the IRS agreed that, with the exception of the LILO and SILO transactions, the tax treatment reported by Altria Group, Inc. on its consolidated tax returns for the 2000-2003 years, as amended by the agreed-upon adjustments in the closing agreement, is appropriate and final. The IRS may not assess against Altria Group, Inc. any further taxes or additions to tax (including penalties) with respect to these years.

 

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Altria Group, Inc. further expects the IRS to challenge and disallow tax benefits claimed in subsequent years related to the LILO and SILO transactions that PMCC entered into from 1996 through 2003. For the period January 1, 2004 through December 31, 2010, the disallowance of federal income tax and associated interest related to the LILO and SILO transactions would be approximately $900 million, taking into account federal income tax paid or payable on gains associated with sales of leased assets during that period and excluding potential penalties. The payment, if any, of this amount would depend upon the timing and outcome of future IRS audits and any related administrative challenges or litigation. The IRS is currently auditing the 2004 – 2006 years.

As of December 31, 2010, the LILO and SILO transactions represented approximately 41% of the Net Finance Assets of PMCC’s lease portfolio. PMCC has not entered into any LILO or SILO transactions since 2003.

Should Altria Group, Inc. not prevail in these matters, Altria Group, Inc. may have to accelerate the payment of significant additional amounts of federal income tax, pay associated interest costs and penalties, if imposed, and significantly lower its earnings to reflect the recalculation of the income from the affected leveraged leases, which could have a material effect on the earnings and cash flows of Altria Group, Inc. in a particular fiscal quarter or fiscal year.

Kraft Thrift Plan Case: Four participants in the Kraft Foods Global, Inc. Thrift Plan (“Kraft Thrift Plan”), a defined contribution plan, filed a class action complaint on behalf of all participants and beneficiaries of the Kraft Thrift Plan in July 2008 in the United States District Court for the Northern District of Illinois alleging breach of fiduciary duty under the Employee Retirement Income Security Act (“ERISA”). Named defendants in this action include Altria Corporate Services, Inc. (now Altria Client Services Inc.) and certain company committees that allegedly had a relationship to the Kraft Thrift Plan. Plaintiffs request, among other remedies, that defendants restore to the Kraft Thrift Plan all losses improperly incurred. The Altria Group, Inc. defendants deny any violation of ERISA or other unlawful conduct and are defending the case vigorously.

In December 2009, the court granted in part and denied in part defendants’ motion to dismiss plaintiffs’ complaint. In addition to dismissing certain claims made by plaintiffs for equitable relief under ERISA as to all defendants, the court dismissed claims alleging excessive administrative fees and mismanagement of company stock funds as to one of the Altria Group, Inc. defendants. In February 2010, the court granted a joint stipulation dismissing the fee and stock fund claims without prejudice as to the remaining defendants, including Altria Corporate Services, Inc. Accordingly, the only claim remaining at this time relates to the alleged negligence of plan fiduciaries for including the Growth Equity Fund and Balanced Fund as Kraft Thrift Plan investment options. Plaintiffs filed a motion for class certification in March 2010, which the court granted in August 2010.

Under the terms of a Distribution Agreement between Altria Group, Inc. and Kraft, the Altria Group, Inc. defendants may be entitled to indemnity against any liabilities incurred in connection with this case.

Environmental Regulation

Altria Group, Inc. and its subsidiaries (and former subsidiaries) are subject to various federal, state and local laws and regulations concerning the discharge of materials into the environment, or

 

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otherwise related to environmental protection, including, in the United States: The Clean Air Act, the Clean Water Act, the Resource Conservation and Recovery Act and the Comprehensive Environmental Response, Compensation and Liability Act (commonly known as “Superfund”), which can impose joint and several liability on each responsible party. Subsidiaries (and former subsidiaries) of Altria Group, Inc. are involved in several matters subjecting them to potential costs of remediation and natural resource damages under Superfund or other laws and regulations. Altria Group, Inc.’s subsidiaries expect to continue to make capital and other expenditures in connection with environmental laws and regulations. As discussed in Note 2. Summary of Significant Accounting Policies, Altria Group, Inc. provides for expenses associated with environmental remediation obligations on an undiscounted basis when such amounts are probable and can be reasonably estimated. Other than those amounts, it is not possible to reasonably estimate the cost of any environmental remediation and compliance efforts that subsidiaries of Altria Group, Inc. may undertake in the future. In the opinion of management, however, compliance with environmental laws and regulations, including the payment of any remediation costs or damages and the making of related expenditures, has not had, and is not expected to have, a material adverse effect on Altria Group, Inc.’s consolidated results of operations, capital expenditures, financial position, or cash flows.

Guarantees

In the ordinary course of business, certain subsidiaries of Altria Group, Inc. have agreed to indemnify a limited number of third parties in the event of future litigation. At December 31, 2010, subsidiaries of Altria Group, Inc. were also contingently liable for $24 million of guarantees related to their own performance, consisting primarily of surety bonds. These items have not had, and are not expected to have, a significant impact on Altria Group, Inc.’s liquidity.

Under the terms of a distribution agreement between Altria Group, Inc. and PMI, entered into as a result of the PMI spin-off, liabilities concerning tobacco products will be allocated based in substantial part on the manufacturer. PMI will indemnify Altria Group, Inc. and PM USA for liabilities related to tobacco products manufactured by PMI or contract manufactured for PMI by PM USA, and PM USA will indemnify PMI for liabilities related to tobacco products manufactured by PM USA, excluding tobacco products contract manufactured for PMI. Altria Group, Inc. does not have a related liability recorded on its consolidated balance sheet at December 31, 2010 as the fair value of this indemnification is insignificant.

As more fully discussed in Note 22. Condensed Consolidating Financial Information, PM USA has issued guarantees relating to Altria Group, Inc.’s obligations under its outstanding debt securities, borrowings under its Revolving Credit Agreements and amounts outstanding under its commercial paper program.

Redeemable Noncontrolling Interest

In September 2007, UST completed the acquisition of Stag’s Leap Wine Cellars through one of its consolidated subsidiaries, Michelle-Antinori, LLC (“Michelle-Antinori”), in which UST holds an 85% ownership interest with a 15% noncontrolling interest held by Antinori California (“Antinori”). In connection with the acquisition of Stag’s Leap Wine Cellars, UST entered into a put arrangement with Antinori. The put arrangement, as later amended, provides Antinori with the right to require UST to purchase its 15% ownership interest in Michelle-Antinori at a price equal to Antinori’s initial investment of $27 million. The put arrangement became exercisable on September 11, 2010 and has no expiration date. As of December 31, 2010, the redemption value of the put arrangement did not exceed the noncontrolling interest balance. Therefore, no adjustment to the value of the redeemable noncontrolling interest was recognized in the consolidated balance sheet for the put arrangement.

 

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The noncontrolling interest put arrangement is accounted for as mandatorily redeemable securities because redemption is outside of the control of UST. As such, the redeemable noncontrolling interest is reported in the mezzanine equity section in the consolidated balance sheets at December 31, 2010 and 2009.

 

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Note 22. Condensed Consolidating Financial Information:

PM USA has issued guarantees relating to Altria Group, Inc.’s obligations under its outstanding debt securities, borrowings under its Revolving Credit Agreements and amounts outstanding under its commercial paper program (the “Guarantees”). Pursuant to the Guarantees, PM USA fully and unconditionally guarantees, as primary obligor, the payment and performance of Altria Group, Inc.’s obligations under the guaranteed debt instruments (the “Obligations”).

The Guarantees provide that PM USA fully and unconditionally guarantees the punctual payment when due, whether at stated maturity, by acceleration or otherwise, of the Obligations. The liability of PM USA under the Guarantees is absolute and unconditional irrespective of: any lack of validity, enforceability or genuineness of any provision of any agreement or instrument relating thereto; any change in the time, manner or place of payment of, or in any other term of, all or any of the Obligations, or any other amendment or waiver of or any consent to departure from any agreement or instrument relating thereto; any exchange, release or non-perfection of any collateral, or any release or amendment or waiver of or consent to departure from any other guarantee, for all or any of the Obligations; or any other circumstance that might otherwise constitute a defense available to, or a discharge of, Altria Group, Inc. or PM USA.

The obligations of PM USA under the Guarantees are limited to the maximum amount as will, after giving effect to such maximum amount and all other contingent and fixed liabilities of PM USA that are relevant under Bankruptcy Law, the Uniform Fraudulent Conveyance Act, the Uniform Fraudulent Transfer Act or any similar federal or state law to the extent applicable to the Guarantees, result in PM USA’s obligations under the Guarantees not constituting a fraudulent transfer or conveyance. For this purpose, “Bankruptcy Law” means Title 11, U.S. Code, or any similar federal or state law for the relief of debtors.

PM USA will be unconditionally released and discharged from its obligations under each of the Guarantees upon the earliest to occur of:

 

•

the date, if any, on which PM USA consolidates with or merges into Altria Group, Inc. or any successor;

 

•

the date, if any, on which Altria Group, Inc. or any successor consolidates with or merges into PM USA;

 

•

the payment in full of the Obligations pertaining to such Guarantees; or

 

•

the rating of Altria Group, Inc.’s long-term senior unsecured debt by Standard & Poor’s of A or higher.

At December 31, 2010, the respective principal wholly-owned subsidiaries of Altria Group, Inc. and PM USA were not limited by long-term debt or other agreements in their ability to pay cash dividends or make other distributions with respect to their common stock.

The following sets forth the condensed consolidating balance sheets as of December 31, 2010 and 2009, condensed consolidating statements of earnings for the years ended December 31, 2010, 2009 and 2008, and condensed consolidating statements of cash flows for the years ended December 31, 2010, 2009 and 2008 for Altria Group, Inc., PM USA and Altria

 

102

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Group, Inc.’s other subsidiaries that are not guarantors of Altria Group, Inc.’s debt instruments (the “Non-Guarantor Subsidiaries”). The financial information is based on Altria Group, Inc.’s understanding of the SEC interpretation and application of Rule 3-10 of SEC Regulation S-X.

The financial information may not necessarily be indicative of results of operations or financial position had PM USA and the Non-Guarantor Subsidiaries operated as independent entities. Altria Group, Inc. and PM USA account for investments in their subsidiaries under the equity method of accounting.

 

103

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Condensed Consolidating Balance Sheets

December 31, 2010

(in millions of dollars)

 

		Altria Group, Inc.				PM USA				Non- Guarantor Subsidiaries				Total Consolidating Adjustments				Consolidated
ASSETS
Consumer products
Cash and cash equivalents		$	2,298			$	—			$	16			$	—			$	2,314
Receivables			1				9				75								85
Inventories:
Leaf tobacco							594				366								960
Other raw materials							121				39								160
Work in process											299								299
Finished product							145				239								384
							860				943								1,803
Due from Altria Group, Inc. and subsidiaries			429				2,902				1,556				(4,887	)
Deferred income taxes			18				1,190								(43	)			1,165
Other current assets			64				420				130								614
Total current assets			2,810				5,381				2,720				(4,930	)			5,981
Property, plant and equipment, at cost			2				3,749				1,399								5,150
Less accumulated depreciation			2				2,343				425								2,770
							1,406				974								2,380
Goodwill											5,174								5,174
Other intangible assets, net							2				12,116								12,118
Investment in SABMiller			5,367																5,367
Investment in consolidated subsidiaries			7,561				325								(7,886	)
Due from Altria Group, Inc. and subsidiaries			6,500												(6,500	)
Other assets			1,511				680				98				(438	)			1,851
Total consumer products assets			23,749				7,794				21,082				(19,754	)			32,871
Financial services
Finance assets, net											4,502								4,502
Due from Altria Group, Inc. and subsidiaries											690				(690	)
Other assets											29								29
Total financial services assets											5,221				(690	)			4,531
TOTAL ASSETS		$	23,749			$	7,794			$	26,303			$	(20,444	)		$	37,402

 

104

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Condensed Consolidating Balance Sheets (Continued)

December 31, 2010

(in millions of dollars)

 

		Altria Group, Inc.				PM USA				Non- Guarantor Subsidiaries				Total Consolidating Adjustments				Consolidated
LIABILITIES
Consumer products
Accounts payable		$	—			$	215			$	314			$	—			$	529
Accrued liabilities:
Marketing							347				100								447
Taxes, except income taxes							212				19								231
Employment costs			30				18				184								232
Settlement charges							3,531				4								3,535
Other			312				467				333				(43	)			1,069
Dividends payable			797																797
Due to Altria Group, Inc. and subsidiaries			3,674				454				1,449				(5,577	)
Total current liabilities			4,813				5,244				2,403				(5,620	)			6,840
Long-term debt			11,295								899								12,194
Deferred income taxes			1,800								3,256				(438	)			4,618
Accrued pension costs			204								987								1,191
Accrued postretirement health care costs							1,500				902								2,402
Due to Altria Group, Inc. and subsidiaries											6,500				(6,500	)
Other liabilities			445				335				169								949
Total consumer products liabilities			18,557				7,079				15,116				(12,558	)			28,194
Financial services
Deferred income taxes											3,880								3,880
Other liabilities											101								101
Total financial services liabilities											3,981								3,981
Total liabilities			18,557				7,079				19,097				(12,558	)			32,175
Contingencies
Redeemable noncontrolling interest											32								32
STOCKHOLDERS’ EQUITY
Common stock			935								9				(9	)			935
Additional paid-in capital			5,751				408				8,217				(8,625	)			5,751
Earnings reinvested in the business			23,459				583				385				(968	)			23,459
Accumulated other comprehensive losses			(1,484	)			(276	)			(1,440	)			1,716				(1,484	)
Cost of repurchased stock			(23,469	)															(23,469	)
Total stockholders’ equity attributable to Altria Group, Inc.			5,192				715				7,171				(7,886	)			5,192
Noncontrolling interests											3								3
Total stockholders’ equity			5,192				715				7,174				(7,886	)			5,195
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY		$	23,749			$	7,794			$	26,303			$	(20,444	)		$	37,402

 

105

---

ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Condensed Consolidating Balance Sheets

December 31, 2009

(in millions of dollars)

 

		Altria Group, Inc.				PM USA				Non- Guarantor Subsidiaries				Total Consolidating Adjustments				Consolidated
ASSETS
Consumer products
Cash and cash equivalents		$	1,862			$	—			$	9			$	—			$	1,871
Receivables, net			3				13				80								96
Inventories:
Leaf tobacco							632				361								993
Other raw materials							120				37								157
Work in process							4				289								293
Finished product							136				231								367
							892				918								1,810
Due from Altria Group, Inc. and subsidiaries			1,436				3,633				1,138				(6,207	)
Deferred income taxes			27				1,250				59								1,336
Other current assets			188				349				123								660
Total current assets			3,516				6,137				2,327				(6,207	)			5,773
Property, plant and equipment, at cost			2				4,811				1,331								6,144
Less accumulated depreciation			2				3,054				404								3,460
							1,757				927								2,684
Goodwill											5,174								5,174
Other intangible assets, net							272				11,866								12,138
Investment in SABMiller			4,980																4,980
Investment in consolidated subsidiaries			5,589												(5,589	)
Due from Altria Group, Inc. and subsidiaries			8,000												(8,000	)
Other assets			774				122				201								1,097
Total consumer products assets			22,859				8,288				20,495				(19,796	)			31,846
Financial services
Finance assets, net											4,803								4,803
Due from Altria Group, Inc. and subsidiaries											603				(603	)
Other assets											28								28
Total financial services assets											5,434				(603	)			4,831
TOTAL ASSETS		$	22,859			$	8,288			$	25,929			$	(20,399	)		$	36,677

 

106

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Condensed Consolidating Balance Sheets (Continued)

December 31, 2009

(in millions of dollars)

 

		Altria Group, Inc.				PM USA				Non- Guarantor Subsidiaries				Total Consolidating Adjustments				Consolidated
LIABILITIES
Consumer products
Current portion of long-term debt		$	775			$	—			$	—			$	—			$	775
Accounts payable			1				202				291								494
Accrued liabilities:
Marketing							415				52								467
Taxes, except income taxes							298				20								318
Employment costs			29				19				191								239
Settlement charges							3,632				3								3,635
Other			270				728				356								1,354
Dividends payable			710																710
Due to Altria Group, Inc. and subsidiaries			4,341				241				2,228				(6,810	)
Total current liabilities			6,126				5,535				3,141				(6,810	)			7,992
Long-term debt			10,287								898								11,185
Deferred income taxes			1,579				111				2,693								4,383
Accrued pension costs			194								963								1,157
Accrued postretirement health care costs							1,519				807								2,326
Due to Altria Group, Inc. and subsidiaries											8,000				(8,000	)
Other liabilities			604				453				191								1,248
Total consumer products liabilities			18,790				7,618				16,693				(14,810	)			28,291
Financial services
Deferred income taxes											4,180								4,180
Other liabilities											102								102
Total financial services liabilities											4,282								4,282
Total liabilities			18,790				7,618				20,975				(14,810	)			32,573
Contingencies
Redeemable noncontrolling interest											32								32
STOCKHOLDERS’ EQUITY
Common stock			935								9				(9	)			935
Additional paid-in capital			5,997				408				6,349				(6,757	)			5,997
Earnings reinvested in the business			22,599				553				26				(579	)			22,599
Accumulated other comprehensive losses			(1,561	)			(291	)			(1,465	)			1,756				(1,561	)
Cost of repurchased stock			(23,901	)															(23,901	)
Total stockholders’ equity attributable to Altria Group, Inc.			4,069				670				4,919				(5,589	)			4,069
Noncontrolling interests											3								3
Total stockholders’ equity			4,069				670				4,922				(5,589	)			4,072
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY		$	22,859			$	8,288			$	25,929			$	(20,399	)		$	36,677

 

107

---

ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Condensed Consolidating Statements of Earnings

For the Year Ended December 31, 2010

(in millions of dollars)

 

		Altria Group, Inc.				PM USA				Non- Guarantor Subsidiaries				Total Consolidating Adjustments				Consolidated
Net revenues		$	—			$	21,580			$	2,809			$	(26	)		$	24,363
Cost of sales							6,990				740				(26	)			7,704
Excise taxes on products							7,136				335								7,471
Gross profit							7,454				1,734								9,188
Marketing, administration and research costs			147				2,280				308								2,735
Reduction of Kraft and PMI tax-related receivables			169																169
Asset impairment and exit costs							24				12								36
Amortization of intangibles											20								20
Operating (expense) income			(316	)			5,150				1,394								6,228
Interest and other debt expense, net			549				2				582								1,133
Earnings from equity investment in SABMiller			(628	)															(628	)
(Loss) earnings before income taxes and equity earnings of subsidiaries			(237	)			5,148				812								5,723
(Benefit) provision for income taxes			(329	)			1,864				281								1,816
Equity earnings of subsidiaries			3,813				46								(3,859	)
Net earnings			3,905				3,330				531				(3,859	)			3,907
Net earnings attributable to noncontrolling interests											(2	)							(2	)
Net earnings attributable to Altria Group, Inc.		$	3,905			$	3,330			$	529			$	(3,859	)		$	3,905

 

108

---

ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Condensed Consolidating Statements of Earnings

For the Year Ended December 31, 2009

(in millions of dollars)

 

		Altria Group, Inc.				PM USA				Non- Guarantor Subsidiaries				Total Consolidating Adjustments				Consolidated
Net revenues		$	—			$	20,922			$	2,634			$	—			$	23,556
Cost of sales							7,332				658								7,990
Excise taxes on products							6,465				267								6,732
Gross profit							7,125				1,709								8,834
Marketing, administration and research costs			234				2,180				429								2,843
Reduction of Kraft tax-related receivable			88																88
Asset impairment and exit costs							142				279								421
Amortization of intangibles							11				9								20
Operating (expense) income			(322	)			4,792				992								5,462
Interest and other debt expense (income), net			579				(3	)			609								1,185
Earnings from equity investment in SABMiller			(600	)															(600	)
(Loss) earnings before income taxes and equity earnings of subsidiaries			(301	)			4,795				383								4,877
(Benefit) provision for income taxes			(313	)			1,882				100								1,669
Equity earnings of subsidiaries			3,194												(3,194	)
Net earnings			3,206				2,913				283				(3,194	)			3,208
Net earnings attributable to noncontrolling interests											(2	)							(2	)
Net earnings attributable to Altria Group, Inc.		$	3,206			$	2,913			$	281			$	(3,194	)		$	3,206

 

109

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Condensed Consolidating Statements of Earnings

For the Year Ended December 31, 2008

(in millions of dollars)

 

		Altria Group, Inc.				PM USA				Non- Guarantor Subsidiaries				Total Consolidating Adjustments				Consolidated
Net revenues		$	—			$	18,753			$	603			$	—			$	19,356
Cost of sales							8,172				98								8,270
Excise taxes on products							3,338				61								3,399
Gross profit							7,243				444								7,687
Marketing, administration and research costs			184				2,449				120								2,753
Exit costs			74				97				278								449
(Gain) loss on sale of corporate headquarters building			(407	)							3								(404	)
Amortization of intangibles											7								7
Operating income			149				4,697				36								4,882
Interest and other debt expense (income), net			323				(274	)			118								167
Loss on early extinguishment of debt			386								7								393
Earnings from equity investment in SABMiller			(467	)															(467	)
(Loss) earnings from continuing operations before income taxes and equity earnings of subsidiaries			(93	)			4,971				(89	)							4,789
(Benefit) provision for income taxes			(130	)			1,838				(9	)							1,699
Equity earnings of subsidiaries			4,893												(4,893	)
Earnings (loss) from continuing operations			4,930				3,133				(80	)			(4,893	)			3,090
Earnings from discontinued operations, net of income taxes											1,901								1,901
Net earnings			4,930				3,133				1,821				(4,893	)			4,991
Net earnings attributable to noncontrolling interests											(61	)							(61	)
Net earnings attributable to Altria Group, Inc.		$	4,930			$	3,133			$	1,760			$	(4,893	)		$	4,930

 

110

---

ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Condensed Consolidating Statements of Cash Flows

For the Year Ended December 31, 2010

(in millions of dollars)

 

		Altria Group, Inc.				PM USA				Non- Guarantor Subsidiaries				Total Consolidating Adjustments				Consolidated
CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES
Net cash (used in) provided by operating activities		$	(712	)		$	2,993			$	486			$	—			$	2,767
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES
Consumer products
Capital expenditures							(54	)			(114	)							(168	)
Other							3				112								115
Financial services
Proceeds from finance assets											312								312
Net cash (used in) provided by investing activities							(51	)			310								259
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES
Consumer products
Long-term debt issued			1,007																1,007
Long-term debt repaid			(775	)															(775	)
Dividends paid on common stock			(2,958	)															(2,958	)
Issuance of common stock			104																104
Changes in amounts due to/from Altria Group, Inc. and subsidiaries			279				325				(604	)
Financing fees and debt issuance costs			(6	)															(6	)
Cash dividends received from/(paid by) subsidiaries			3,438				(3,259	)			(179	)
Other			59				(8	)			(6	)							45
Net cash provided by (used in) financing activities			1,148				(2,942	)			(789	)							(2,583	)
Cash and cash equivalents:
Increase			436				—				7				—				443
Balance at beginning of period			1,862								9								1,871
Balance at end of period		$	2,298			$	—			$	16			$	—			$	2,314

 

111

---

ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Condensed Consolidating Statements of Cash Flows

For the Year Ended December 31, 2009

(in millions of dollars)

 

		Altria Group, Inc.				PM USA				Non- Guarantor Subsidiaries				Total Consolidating Adjustments				Consolidated
CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES
Net cash (used in) provided by operating activities		$	(10	)		$	3,496			$	(43	)		$	—			$	3,443
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES
Consumer products
Capital expenditures							(149	)			(124	)							(273	)
Acquisition of UST, net of acquired cash											(10,244	)							(10,244	)
Changes in amounts due to/from Altria Group, Inc. and subsidiaries			(6,000	)							6,000
Other							(4	)			(27	)							(31	)
Financial services
Investment in finance assets											(9	)							(9	)
Proceeds from finance assets											793								793
Net cash used in investing activities			(6,000	)			(153	)			(3,611	)							(9,764	)
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES
Consumer products
Net repayment of short-term borrowings											(205	)							(205	)
Long-term debt issued			4,221																4,221
Long-term debt repaid							(135	)			(240	)							(375	)
Financial services
Long-term debt repaid											(500	)							(500	)
Dividends paid on common stock			(2,693	)															(2,693	)
Issuance of common stock			89																89
Financing fees and debt issuance costs			(177	)															(177	)
Changes in amounts due to/from Altria Group, Inc. and subsidiaries			(5,227	)			423				4,804
Cash dividends received from/(paid by) subsidiaries			3,711				(3,575	)			(136	)
Other			38				(57	)			(65	)							(84	)
Net cash (used in) provided by financing activities			(38	)			(3,344	)			3,658								276
Cash and cash equivalents:
(Decrease) increase			(6,048	)			(1	)			4				—				(6,045	)
Balance at beginning of year			7,910				1				5								7,916
Balance at end of year		$	1,862			$	—			$	9			$	—			$	1,871

 

112

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ALTRIA GROUP, INC. and SUBSIDIARIES

NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Condensed Consolidating Statements of Cash Flows

For the Year Ended December 31, 2008

(in millions of dollars)

 

		Altria Group, Inc.				PM USA				Non- Guarantor Subsidiaries				Total Consolidating Adjustments				Consolidated
CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES
Net cash (used in) provided by operating activities, continuing operations		$	(242	)		$	3,499			$	(42	)		$	—			$	3,215
Net cash provided by operating activities, discontinued operations											1,666								1,666
Net cash (used in) provided by operating activities			(242	)			3,499				1,624				—				4,881
CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES
Consumer products
Capital expenditures							(220	)			(21	)							(241	)
Proceeds from sale of corporate headquarters building			525																525
Changes in amounts due to/from Altria Group, Inc. and subsidiaries			(7,558	)			6,000				1,558
Other							2				108								110
Financial services
Investment in finance assets											(1	)							(1	)
Proceeds from finance assets											403								403
Net cash (used in) provided by investing activities, continuing operations			(7,033	)			5,782				2,047								796
Net cash used in investing activities, discontinued operations											(317	)							(317	)
Net cash (used in) provided by investing activities			(7,033	)			5,782				1,730								479
CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES
Consumer products
Long-term debt issued			6,738																6,738
Long-term debt repaid			(2,499	)							(1,558	)							(4,057	)
Repurchase of common stock			(1,166	)															(1,166	)
Dividends paid on common stock			(4,428	)															(4,428	)
Issuance of common stock			89																89
PMI dividends paid to Altria Group, Inc.			3,019																3,019
Financing fees and debt issuance costs			(93	)															(93	)
Tender and consent fees related to the early extinguishment of debt			(368	)							(3	)							(371	)
Changes in amounts due to/from PMI			(664	)															(664	)
Changes in amounts due to/from Altria Group, Inc. and subsidiaries			10				347				(357	)
Cash dividends received from/(paid by) subsidiaries			9,662				(9,565	)			(97	)
Other			50				(63	)			9								(4	)
Net cash provided by (used in) financing activities, continuing operations			10,350				(9,281	)			(2,006	)							(937	)
Net cash used in financing activities, discontinued operations											(1,648	)							(1,648	)
Net cash provided by (used in) financing activities			10,350				(9,281	)			(3,654	)							(2,585	)
Effect of exchange rate changes on cash and cash equivalents:
Discontinued operations											(126	)							(126	)
Cash and cash equivalents, continuing operations:
Increase (decrease)			3,075				—				(1	)			—				3,074
Balance at beginning of year			4,835				1				6								4,842
Balance at end of year		$	7,910			$	1			$	5			$	—			$	7,916

 

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NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

Note 23. Quarterly Financial Data (Unaudited):

 

				2010 Quarters
				1st				2nd				3rd				4th
				(in millions, except per share data)
Net revenues				$	5,760			$	6,274			$	6,402			$	5,927
Gross profit				$	2,084			$	2,374			$	2,476			$	2,254
Net earnings				$	813			$	1,043			$	1,131			$	920
Net earnings attributable to noncontrolling interests									(1	)							(1	)
Net earnings attributable to Altria Group, Inc.				$	813			$	1,042			$	1,131			$	919
Per share data:
Basic EPS attributable to Altria Group, Inc.				$	0.39			$	0.50			$	0.54			$	0.44
Diluted EPS attributable to Altria Group, Inc.				$	0.39			$	0.50			$	0.54			$	0.44
Dividends declared				$	0.35			$	0.35			$	0.38			$	0.38
Market price		- high		$	20.86			$	21.91			$	24.39			$	26.22
		- low		$	19.14			$	19.20			$	19.89			$	23.66

 

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NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

				2009 Quarters
				1st				2nd				3rd				4th
				(in millions, except per share data)
Net revenues				$	4,523			$	6,719			$	6,300			$	6,014
Gross profit				$	2,042			$	2,456			$	2,285			$	2,051
Net earnings				$	589			$	1,011			$	882			$	726
Net earnings attributable to noncontrolling interests									(1	)							(1	)
Net earnings attributable to Altria Group, Inc.				$	589			$	1,010			$	882			$	725
Per share data:
Basic EPS attributable to Altria Group, Inc.				$	0.28			$	0.49			$	0.43			$	0.35
Diluted EPS attributable to Altria Group, Inc.				$	0.28			$	0.49			$	0.42			$	0.35
Dividends declared				$	0.32			$	0.32			$	0.34			$	0.34
Market price		- high		$	17.63			$	17.62			$	18.70			$	20.47
		- low		$	14.50			$	15.76			$	16.10			$	17.28

 

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NOTES to CONSOLIDATED FINANCIAL STATEMENTS

 

 

 

During 2010 and 2009, the following pre-tax charges or (gains) were included in net earnings attributable to Altria Group, Inc.:

 

		2010 Quarters
		1st				2nd				3rd				4th
		(in millions)
Asset impairment and exit costs		$	7			$	21			$	3			$	5
Implementation and integration costs			33				29				24				9
UST acquisition-related costs			5				5				5				7
SABMiller special items			17				47				21				22
		$	62			$	102			$	53			$	43
		2009 Quarters
		1st				2nd				3rd				4th
		(in millions)
Asset impairment and exit costs		$	128			$	38			$	133			$	122
Implementation and integration costs			37				50				50				60
UST acquisition-related costs			164				7				7				9
PMCC increase in allowance for losses							15
SABMiller special items							(63	)			38				10
		$	329			$	47			$	228			$	201

As discussed in Note 16. Income Taxes, Altria Group, Inc. has recognized income tax benefits in the consolidated statements of earnings during 2010 and 2009 as a result of various tax events.

 

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