Spreads on RJR Nabisco bonds widened yesterday after news that already announced tobacco price cuts will hurt the company's second-half results.
The New York-based company's 10-year paper widened roughly 20 basis points, to 350 basis points from Wednesday's 330 close.
The widening came after RJR Nabisco Holdings Corp. said that the domestic tobacco unit's 1993 full-year operating income before amortization and goodwill could drop $900 million below 1992's $2.11 billion level. The company said the drop would come from a combination of lower domestic tobacco revenues, the costs of buying back inventory that was sold to distributors at higher prices, and from already-committed-to marketing programs.
Yesterday's widening continued the trend of the past few weeks, when the company's 10-year bonds were at about 300 basis points more than comparable Treasuries, according to Stewart Morel, a vice president and industrial analyst at UBS Securities Inc.
"There has continued to be pressure on their spreads," Morel said.
An article Wednesday in The Wall Street Journal describing tax legislation that could make selling businesses more attractive to companies contributed to the pressure, Morel said. Concern continues that the company may be broken up into its tobacco and food components, he said.
And, in addition to the anticipated weaker earnings, RJR may also face the possibility of an excise tax under the proposed Clinton healthcare plan.
"They've got a tough road ahead," said Ellen Baras, a vice president at Duff & Phelps/MCM Investment Research Co. "The main problem is pricing pressure," she said.
RJR Nabisco is largely at the mercy of tobacco market leader Philip Morris Cos., which recently changed its pricing strategy. With consumers interested in discount brands, Philip Morris on Aug. 9 moved to cut the list prices on top brands, narrowing the gap between Philip Morris and discount brands.
When Philip Morris made that move, RJR Nabisco had little choice but to follow suit, Baras said.
Also yesterday, RJR said in its release that a short-term increase in interest expense would also contribute to lower results for the year.
RJR is temporarily using proceeds from recent senior debt offerings to reduce lower cost bank debt.
The company will eventually use proceeds from the debt offerings along with proceeds from its recent preferred stock offering of $1.25 billion to pay back higher-cost debt.
"Although the domestic tobacco environment has changed over the past five months, RJR Nabisco will generate good cash flows that will enable us to continue investing in business building activities -- including acquisitions," said Charles M. Harper, RJR Nabisco's chairman and chief executive officer, in the release.
RJR is expecting improved full-year results in 1994 as a result of "aggressive margin improvement programs in all of its operations," the release says.
Reiterating a statement the company made in its second-quarter earnings report, Harper said, "We plan to get our house in order this year so that we can resume our earnings growth next year."
In other news, Merrill Lynch was tight-lipped yesterday after a wire service reported that the Federal Bureau of Investigation was investigating at least one of its asset-backed deals.
A Dow Jones story quoted an anonymous source as saying the FBI is scrutinizing one or more asset-backed deals offered by Merrill Lynch more than two years ago.
"Merrill Lynch does not comment, on rumors or statements made by unidentified sources," a Merrill Lynch spokeswoman said.
The alleged probe involves at least one deal offered by Western Savings & Loan, an insolvent Arizona thrift, according to the wire report.
In the late 1980s, Western Savings issued several securities backed by mobile home loans, Dow Jones said.
The alleged inquiry involves two members of Merrill Lynch's asset-backed securities group, one of whom the Dow Jones source identifies as Thomas Capasse.
In secondary trading, high-yield bonds ended 1/4 point lower. The high-grade market saw some selective spread widening in sloppy pre-Labor Day trading.
New Issues
Avco Financial Services Inc. issued $200 million of 5.5% notes due 2000. The noncallable notes were priced at 99.724 to yield 5.55% or 55 basis points more than comparable Treasuries. Morgan Stanley & Co. was lead manager of the offering. Moody's rates the offering A2, while Standard & Poor's Corp. rates it A.
Federal Home Loan Banks issued $213.2 million of 4.17% notes due 1996 at par. The noncallable notes were priced to yield two basis points more than comparable Treasuries. Merrill Lynch managed the offering.
Federal Home Loan Mortgage Corp. issued $100 million of 4.22% notes due 1996 at par. Noncallable for a year, the notes were priced to yield nine basis points more than comparable Treasuries. Salomon Brothers Inc. managed the offering.
