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Attorney General Lockyer Moves to Fight Tobacco Firms' Attempt to Take Back from California $153.4 Million in Settlement Payments

Files Court Action to Protect State, Local Governments in Dispute Over Market Share Loss
Tuesday, April 18, 2006
Contact: (415) 703-5837

(SAN DIEGO) – Attorney General Bill Lockyer today went to court to prevent the Big 3 tobacco companies, and 27 others, from taking back at least $153.4 million they owed and paid to California under the historic Master Settlement Agreement (MSA) reached in 1998 between cigarette makers and 46 states.

“The tobacco companies that signed the agreement have no legal grounds for taking back this money from California,” said Lockyer. “They owed it, and we intend to keep it. The state has diligently upheld its end of the MSA bargain. We were, and remain, entitled to full payment. Our case is rock solid, and I have no doubts we will show that to the court’s complete satisfaction.”

In papers filed today, Lockyer asked San Diego County Superior Court Judge Ronald S. Prager to reject the tobacco companies’ argument they are entitled to a $153.4 million offset in the MSA payment they made to California for 2003. The companies which signed the MSA – the Big 3 of Philip Morris, R.J. Reynolds Tobacco Company (RJR) and Lorillard, and 27 smaller firms – have made the same adjustment claim against the other 45 settling states. Many of those other jurisdictions likely will mount their own, individual defenses in their respective state courts.

The total at stake for the 46 states tops $1.201 billion: more than $1.115 billion from the Big 3 and more than $86.113 million from the other 27 firms. Under the allocation formula set by the MSA, California’s share of the total annual national payment is 12.764 percent. Using that same percentage, California’s portion of the more than $1.201 billion adjustment sought by the companies is $153.4 million. All money paid to California is shared 50-50 by the state and local governments.

While the adjustment dispute remains unresolved, Philip Morris on March 31 made its full 2006 MSA payment of $3.4 billion. California’s share of that is roughly $434 million, split evenly between the state and local governments. RJR and Lorillard, however, along with some of the 27 other smaller firms, withheld the disputed amounts from their 2006 payments. The RJR and Lorillard action reduced their payments by a combined $755 million, of which approximately $96.4 million belongs to California.

Lockyer stressed that while Philip Morris and others have made their full payment in 2006, they still claim they are entitled to the disputed reduction. As a result, he said, that money also remains at stake in the legal action. Philip Morris’ disputed 2003 payment to California is roughly $45.2 million.

The dispute centers on a provision of the MSA that governs loss of market share by the participating companies. In signing the agreement, those firms agreed not only to make the annual payments, but also to abide by the MSA’s restrictions on marketing their products. Under the MSA, if the participating companies’ market share in any calendar year dips two percent below its 1997 market share, the firms become eligible for a payment reduction. The potential adjustment is based on a formula set in the MSA.

The participating companies’ market share loss reached roughly 6.25 percent in 2003. Under the formula, that made them eligible for an adjustment of about 18.74 percent, or a little more than $1.201 billion, off their 2003 MSA payment.

While the market share loss makes the companies eligible for a reduction, it does not entitle them to the adjustment. Under the MSA, they have to meet two additional conditions. First, they have to obtain a determination from an independent economic consulting firm that the MSA was a “significant factor” contributing to the market share loss. The companies received that determination on March 27 from the Brattle Group.

The second condition specifies the companies cannot receive an offset from their payment to any individual state if the state shows it has diligently enforced laws and regulations designed to level the playing field between companies that signed the MSA and those that did not. In that regard, Lockyer argues in the court papers filed today, California has a sterling record that bars any adjustment to the participating firms’ 2003 payment to the state.

Basically, the laws and rules governing non-participating companies require them to make annual payments into an escrow account based on how many cigarettes they sell in the state. The state can draw on the funds to cover any future liabilities the non-participating firms may owe the state.

As highlighted in Lockyer’s court filing, California has enacted tough rules for non-participating firms and aggressively enforced them. Under its statutes and regulations, California: identifies and tracks the sales of all non-participating companies; notifies the firms of their payment obligations; investigates and brings enforcement actions against companies that fail to make escrow payments; requires quarterly, rather than annual, payments from firms the state deems at risk of non-compliance; prohibits any non-complying company from selling cigarettes in California; and can suspend or revoke the business licenses of distributors who sell cigarettes produced by non-complying firms.

Lockyer since 2000 has brought 24 enforcement actions to collect escrow payments from non-participating firms. In those actions, Lockyer has obtained judgments totaling about $13 million in owed escrow payments and penalties.

In addition to going after non-participating firms that fail to make escrow payments, Lockyer has maintained one of the nation’s most aggressive programs to enforce the MSA against participating companies that violate its provisions. For example, Lockyer prevailed in major enforcement actions against RJR for violating MSA provisions that prohibit marketing cigarettes to children and restrict outdoor advertising. He also successfully sued three participating companies when they failed to make their MSA payments.

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