Fitch Affirms Reynolds American's IDR at 'BB'; Outlook Stable.

NEW YORK -- Fitch Ratings has affirmed the following ratings of Reynolds American Inc. (RAI) following the company's agreement to acquire the holding company that owns Conwood, the nation's second largest manufacturer of smokeless tobacco products:

Reynolds American Inc. Issuer Default Rating (IDR) 'BB'.

R.J. Reynolds Tobacco Holdings, Inc. (RJR):

Issuer Default Rating (IDR) 'BB';

Guaranteed Notes 'BB+';

Bank Facility 'BB+';

Senior Unsecured Notes 'BB'.

The Rating Outlook is Stable. Approximately $1.7 billion in outstanding debt is affected by the rating action.

Conwood's revenues and operating income last year were approximately $450 million and $250 million, respectively. RAI has a financing commitment for the entire purchase price of $3.5 billion. However, Fitch expects RAI to issue $3.2 billion in new debt and utilize $300 million in cash. The new debt is expected to include a six year-term loan and senior secured notes. A 364-day secured capital markets term loan facility is available solely to fund amounts which are not obtained pursuant to the company's planned senior secured notes offering.

Additionally, the company has a commitment for a new $500 million five-year revolving credit facility to be used for post-closing working capital needs. This facility will replace the existing revolving credit facility at RJR, the company's wholly owned subsidiary.

Fitch expects all of the new debt issued by RAI to include more guarantors than its existing credit facility and guaranteed notes. The additional guarantors include Conwood, Lane Limited and Santa Fe Natural Tobacco Holdings. As a result, the new debt may have a higher priority. Upon review of the final documentation, this new debt will be rated by Fitch.

Coverage and leverage, adjusted on a pro forma basis to include Conwood, will weaken from very strong year end levels. Based on the preliminary terms of the deal, leverage measured by Total Debt to EBITDA (defined as total debt divided by earnings before interest, taxes, depreciation and amortization) goes from 0.9 times(x) for 2005 to 2.2x. On the same basis, coverage measured by EBITDA to Gross Interest Expense goes from 16.6x to 6.1x.

RAI has demonstrated its ability to integrate acquisitions, proven by the success of the 2004 Brown & Williamson acquisition. While the Conwood deal is priced high at a 13.5 x EBITDA multiple, the company provides RAI with diversification, growth and significantly higher margins. RAI's domestic tobacco subsidiary, R.J. Reynolds Tobacco Company (RJRT), is limited primarily to the declining domestic cigarette market. RJRT has implemented an operating strategy in which all of its marketing support goes behind its key brands. The company's top two brands, Camel and Kool, which contribute approximately 33% of volume, receive 80% of marketing support. (Other brands receiving support include Winston, Salem, Doral, Pall Mall and Eclipse.) Notwithstanding this strategy, RJRT's market share has fallen approximately 200 basis points from 32% in 2003 to 30% in 2005. It remains unclear whether RJRT can achieve market share growth over the longer term.

The uncertainty around tobacco industry litigation is the over-riding risk factor affecting the ratings. However the industry has seen progress marked by a reduction in the outstanding case load and the number of new cases being filed. Fitch is currently evaluating a reduction in domestic tobacco litigation risk as a factor in the credit ratings of industry participants. The review focuses on the risk posed by the major class action cases and the Department of Justice case.

The Stable Outlook reflects that industry fundamentals have improved considerably. The major tobacco companies have regained pricing power, which has led to material improvements in operating earnings. Nonetheless, the ratings rely upon maintenance of significant liquidity to manage the tobacco-related litigation risk. RAI has a high degree of liquidity, with March 31, 2006 cash and short-term investments of $2.2 billion.

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, 'www.fitchratings.com'. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site.