Debt Policy at UST Inc.

Debt Policy at UST Inc.
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Debt Policy at UST Inc.
The frame of the Issue
As detailed in the case study on UST Inc. by Harvard Business School and Michell (2000), the company in the 1990s held a reputable position as a leading business dealing in moist smokeless tobacco products. Accordingly, UST dominated the market with a 77% stake. Unlike smoked cigarette tobacco products, the products produced by the firm included 1). Dry and moist products consumed by snuffing, as well as 2). Loose leaf, twist/roll, and plug consumed by chewing (Harvard Business School and Michell, 2000). UST established itself with unique products and flavors in the snuff category to propel it to sustained profitability for several years. The company increased the cost of its products over time and contributed to an increase in the shareholder earnings (Harvard Business School and Michell, 2000). There was also a growing demand for smokeless tobacco products as compared to smoked cigarette products that had numerous restrictions such as those aimed at preventing non-smokers from second-hand smoke (Harvard Business School and Michell, 2000).
Despite the favorable circumstances within which UST operated, market analysts noted that the company had not taken full advantage as it was tardy in producing new products. It was not until 1997 when the company UST came up with a new line of products such as Long Cut, Copenhagen, and Rooster (Harvard Business School and Michell, 2000). Another challenge that faced the company was the new smaller businesses entering the market and offering products at lower prices (Harvard Business School and Michell, 2000). However, UST did not cut down its prices as expected but indirectly responded by initiating marketing campaigns, increasing couponing, and launching the promotion of their products (Harvard Business School and Michell, 2000). Additionally, the tobacco industry often faced many lawsuits, most of which were linked to the negative health effects of tobacco products. In this regard, the smoked cigarette types were more affected due to research that had linked cigarette smoking to diseases like cancer. Therefore, the smokeless tobacco products were not affected as much but this did not mean UST had no legal issues of concern. It follows that the company had 7 pending cases in court on the health effects of their products (Harvard Business School and Michell, 2000).
Putting all aspects together, it is clear that UST enjoyed sustained profitability and progress in its business activities for many years leading up to the 1990s. Accordingly, the S&P rated many tobacco companies as having investment-grade debt (Harvard Business School and Michell, 2000). However, there was no clear outlook of how the debt rating would fair in the coming years amidst the rising instances of lawsuits that faced even those companies producing smokeless tobacco products. It is under these circumstances of a questionable future outlook in the tobacco industry that the UST board decided to effect an active capital structure change in December 1998 (Harvard Business School and Michell, 2000). As such, the board approved a decision to undertake a $1 billion market recapitalization; a decision that represented a big shift from a longstanding history of a conservative debt policy (Harvard Business School and Michell, 2000)
Business Risks of UST: A Bondholder’s Viewpoint
The following business risks were linked with UST as indicated by (Harvard Business School and Michell, 2000):
* International markets experienced little demand for smokeless tobacco products and UST did not fancy the idea of expanding to markets outside the U.S.
* UST had failed to respond promptly in diversifying its product lines on favorable pricing and this created an opportunity for smaller businesses to come up with more affordable pricing especially for lower-end smokeless tobacco products. In the foregoing, smaller businesses such as Conwood, Swisher, and Swedish Match were noted to record growing revenues in smokeless tobacco products.
* Companies dealing in both smoked and smokeless tobacco products began to face numerous litigations and la...