Investment in SABMiller

6 Months Ended

Jun. 30, 2016

Business Combinations [Abstract]

Investment in SABMiller

Investment in SABMiller:

At June 30, 2016, Altria Group, Inc. held approximately 27% of the economic and voting interest of SABMiller. Altria Group, Inc. accounts for its investment in SABMiller under the equity method of accounting.

AB InBev and SABMiller Business Combination

In November 2015, AB InBev announced its firm offer to effect a business combination with SABMiller in a cash and stock transaction valued at approximately $107 billion. Under the November 2015 terms of the transaction, SABMiller shareholders would have received 44 British pounds (“GBP”) in cash for each SABMiller share, with a partial share alternative (“PSA”) available for approximately 41% of the SABMiller shares.

On July 26, 2016, AB InBev announced its revised and final offer to SABMiller for the proposed business combination (the “Revised and Final Offer”) under which the all-cash offer was increased from 44 GBP to 45 GBP per SABMiller share and the cash element of the PSA was increased from 3.7788 GBP to 4.6588 GBP per SABMiller share. The equity component of the PSA remains unchanged.

Altria Group, Inc. has committed to elect the PSA. Under the Revised and Final Offer of the PSA, SABMiller shareholders may elect to receive for each SABMiller share held (i) 0.483969 restricted shares (the “Restricted Shares”) in a newly formed Belgian company (“NewCo”) that will own the combined SABMiller and AB InBev business plus (ii) 4.6588 GBP in cash.

If the transaction is completed, NewCo will acquire SABMiller and, following the closing of that acquisition, AB InBev will merge into NewCo. Under the Revised and Final Offer, Altria Group, Inc. expects to exchange its approximate 27% economic and voting interest in SABMiller for an interest that will be converted into Restricted Shares representing an approximate 10.5% economic and voting interest in NewCo plus, including the anticipated impact of the derivative financial instrument discussed below, approximately $3.0 billion in pre-tax cash (subject to proration as described in the 2015 Form 10-K). The Revised and Final Offer increases the cash element of the PSA for Altria Group, Inc. by approximately $500 million based on the July 26, 2016 GBP to United States dollar (“USD”) exchange rate.

Upon closing of the transaction, Altria Group, Inc. estimates, based on the Revised and Final Offer, that it will record a one-time pre-tax accounting gain of approximately $13 billion, or $8.5 billion after-tax. This estimate is based on the AB InBev share price, GBP to USD exchange rate and book value of Altria Group, Inc.’s investment in SABMiller at June 30, 2016. The actual gain recorded at closing may vary significantly from this estimate based on changes to these factors, the impact of dispositions related to the transaction and any proration of Restricted Shares.

Altria Group, Inc. expects to account for its economic and voting interest in NewCo under the equity method of accounting because Altria Group, Inc. anticipates having the ability to exercise significant influence over the operating and financial policies of NewCo. This conclusion is based on the fact that Altria Group, Inc. expects to have active representation on NewCo’s Board of Directors (“NewCo Board”) and its Committees. In addition, through NewCo Board and Committee representation, Altria Group, Inc. anticipates participating in NewCo policy making processes.

The transaction is subject to certain closing conditions, including shareholder approvals of both SABMiller and AB InBev, and receipt of the required regulatory approvals.

Derivative Financial Instrument

In November 2015, Altria Group, Inc. entered into a derivative financial instrument in the form of a put option (the “option”) to hedge Altria Group, Inc.’s exposure to foreign currency exchange rate movements for the GBP, in relation to the initial USD pre-tax cash consideration of approximately $2.5 billion that Altria Group, Inc. expected to receive under the PSA. Altria Group, Inc. has the ability to exercise or terminate the option up to its expiration date of May 11, 2017. The notional amount of the option is $2,467 million (1,625 million GBP). The option does not qualify for hedge accounting; therefore, changes in the fair value of the option will be recorded as a pre-tax gain or loss in Altria Group, Inc.’s consolidated statement of earnings for the periods in which the changes occur. For the six and three months ended June 30,2016, Altria Group, Inc. recorded a pre-tax gain of $157 million and $117 million, respectively, for the change in the fair value of the option, which was included in gain on derivative financial instrument in Altria Group, Inc.’s condensed consolidated statements of earnings.

The fair value of the option is determined using a binomial option pricing model, which reflects the contractual terms of the option and other observable market-based inputs, and is classified in Level 2 of the fair value hierarchy. At June 30, 2016 and December 31, 2015, the fair value of the option of $309 million and $152 million, respectively, was recorded in other current assets on Altria Group, Inc.’s condensed consolidated balance sheets.