Vector Group Ltd.

Good morning, and thank you for joining us on Vector Group's Fourth Quarter and Full Year 2011 Earnings Conference Call. With me today is Ron Bernstein, the President and CEO of Liggett Vector Brands and Liggett; and Bryant Kirkland, Vector Group's Chief Financial Officer.

On today's call, I will provide an update on our business and review Vector Group's financials for the fourth quarter and full year ending December 31, 2011. Ron will then address Liggett's performance for the period and provide his perspective on the industry.

After that, we will answer your questions.

As you will recall, our primary goal for 2011 were to continue growing Liggett's market share by focusing on our PYRAMID brand while also delivering year-over-year profit growth. I am happy to report that we achieved both of these goals.

I'm particularly pleased with our strong earnings performance during 2011 amidst what continues to be a challenging domestic tobacco market. We will provide more detail when we discuss our financial results and tobacco business performance later in the call.

With respect to our non-tobacco operations, we continue to identify and pursue investment opportunities that we believe will enhance the long-term value of Vector Group. We believe there are good opportunities in this market, in real estate and elsewhere, and we will continue to make appropriate investments when these opportunities meet our criteria.

Before turning to the financials, I want to briefly update you on tobacco litigation, and specifically the Engle cases in Florida. As previously noted, the Engle progeny cases are now the primary focus of our litigation activity with 5,755 cases currently pending in both federal and state courts.

We, along with other industry defendants, continue to believe that the Engle process is materially flawed and unconstitutional. That said, appellate efforts to date have not been successful and the Florida Supreme Court has declined to review verdicts against the tobacco industry defendants.

While we believe we have strong arguments, as evidenced by several defense verdicts in the state cases and the potentially favorable ruling in federal court referenced on previous calls, there is still considerable risk that these cases go to trial and we remain subject to the ongoing process and periodic negative judgments.

Turning now to Vector's balance sheet. Our liquidity remains strong with cash and cash equivalents of approximately $240.9 million as of December 31, 2011.

Additionally, as of December 31, 2011, the company held investment securities and partnership interests with a fair market value of approximately $100.5 million.

Now let's turn to the key financials for the 3 months and full year ended December 31, 2011, for Vector Group. For the fourth quarter ended December 31, 2011, Vector Group revenues were $292.8 million compared to $277.6 million in the 2010 fourth quarter.

The company recorded operating income of $36 million in the 2011 fourth quarter compared to operating income of $29.3 million in the corresponding period in 2010. Fourth quarter 2011 net income was $7.8 million or $0.10 per diluted share compared to $12 million or $0.15 per diluted share in the 2010 period.

Excluding $5.3 million of pretax charges from changes in fair value of derivatives embedded within our convertible debt, fourth quarter 2011 net income was $11.1 million or $0.14 per diluted share.

Excluding a $1.8 million pretax non-recurring litigation judgment expense and $1.2 million of pretax charges from changes in fair value of derivatives embedded with our convertible debt, fourth quarter 2010 operating income was $31.1 million, and fourth quarter 2010 net income was $13.9 million or $0.17 per diluted share.

The full year ended December 31, 2011, Vector Group revenues were $1.33 billion compared to $1.063 billion in 2010. The company recorded operating income of $143.3 million in 2011 compared to operating income of $111.3 million for the 2010 period.

Excluding a $16.2 million pretax charge related to the litigation judgment and a $3 million pretax non-recurring settlement charge, operating income was $130.5 million for the 2010 12-month period. Net income was $75 million for the full year of 2011 or $0.93 per diluted share compared to $54.1 million or $0.67 per diluted share in 2010.

The 2011 results include pretax gains from the liquidation of long-term investments of $25.8 million, changes in fair value of derivatives embedded with our convertible debt of $8 million, sales of townhomes of $3.8 million. The amounts were offset by a loss on extinguishment of debt of $1.2 million.

Adjusting for these items, net income for the 12-month period in 2011 was $53.3 million or $0.66 per diluted share. Excluding the litigation judgment, settlement charges and $11.5 million of pretax gains from changes in fair value of derivatives embedded with our convertible debt, net income for the 12-month period in 2010 was $58.7 million or $0.73 per diluted share.

I will now turn the call over to Ron Bernstein to discuss our tobacco businesses. Ron?

Thanks, Howard. Good morning, everybody.

As Howard indicated, we're very pleased to have increased both market share and operating profit in 2011, despite difficult market environment. As noted in prior calls, we embarked on a growth strategy in conjunction with the April 1, 2009, federal excise tax increase.

We've had significant success in the almost 3 years since we began this initiative. And based upon our progress and what we see the marketplace, we continue to feel positive about the course we're on.

I will elaborate more in our performance in a moment, but first let me turn to the financials.

Please note that financial recording for Vector Tobacco is combined with Liggett. For the 3 months and full year ended December 31, 2011, Liggett revenues were $292.8 million and $1.133 billion compared to $277.6 million and $1.063 billion for the corresponding periods in 2010.

Operating income for the 3 months and full year ended December 31, 2011, was $43.1 million and $164.6 million compared to $33.7 million and $130.2 million in 2010.

Operating income in the fourth quarter of 2011 included $200,000 of pretax charges related to litigation and settlements compared to $2.1 million in charges in the fourth quarter of 2010. Operating income for the full year of 2011 had $790,000 of pretax charges related to litigation and settlements compared to $19.7 million of such charges in 2010.

As we have noted, since 2005, we've carefully balanced our approach to pursuing volume and margin opportunities in the market. That continues to be the case, and our objective is to achieve sustainable profitable growth in our business over the long term.

Early in 2011, LVB continued to pursue the volume growth strategies that has been successful since the federal exercise tax increase in April of '09. This strategy enabled LVB to gain over 1.5 points of market share since the excise tax increase, becoming the fourth largest cigarette manufacturer with the second largest discount brand in the United States.

However, industry dynamics have been challenging. In addition to typical competitive pressures, the extraordinary growth of mislabeled pipe tobacco continued in 2011 and actually accelerated as the year progress.

I'll discuss the pipe tobacco situation in more detail shortly, but the growth of this mislabeled product has clearly put more pricing pressure on the industry as a whole and the discount market in particular.

In recognition of this trend, LVB suddenly shifted our emphasis in the second half of the year to an approach that supports higher-margin growth. As a result, excluding pretax litigation settlement charges, LVB was able to achieve over 20% operating income growth for the fourth quarter 2011 and over 10% for the full year.

At the same time, we, along with Lorillard, were the only companies that grew both market share and shipments for the year. The primary driver for Liggett's volume growth in 2011 was the strong performance of PYRAMID, which was repackaged and reintroduced to the market in April 2009.

According to Management Science Associates, for the quarter ending December 31, 2011, Liggett's wholesale market share was just under 4%, representing a 10-basis point increase over the prior-year period. When averaged for the year, LVB's wholesale market share was 3.76%, a 23-basis point increase over 2010.

For the fourth quarter of 2011, compared to the prior year period, Liggett's retail market share remained effectively flat at just under 4%. For the full year, Liggett gained 20 basis points of retail share to 3.95%.

In 2011, industry retail shipments declined by almost 2.9% while Liggett's shipments grew by 2.3%. During the same period, while industry wholesale shipments declined by almost 3.5%, Liggett's shipments increased by almost 2.7%.

Fourth quarter 2011 industry wholesale shipments declined by 2.7% while Liggett shipments declined by less than 0.5%. During the same period, industry retail shipments declined by 2.4% while Liggett shipments declined by 4.7%.

Fourth quarter industry retail shipments appear to have been affected by robust end of year shipments by Altria which delivered far stronger share performance in the fourth quarter than it had for the year.

As noted previously, PYRAMID continues to be the primary driver for Liggett's volume growth. According to Management Science Associates, for the full year of 2011, PYRAMID was the sixth largest brand in the United States in terms of both retail and wholesale shipments.

Additionally, as previously mentioned, PYRAMID was the second largest discount brand in the country. Since reintroduction, we've been focused on building PYRAMID as a national brand rather than a brand with regional strength.

To achieve that goal, we defined benchmarks throughout the United States to measure our effectiveness over time. In 2011, we continued to see strong acceptance of the brand at the retail and consumer level.

We made excellent progress in building PYRAMID nationwide during the year, with significant increases in distribution through all channels in all geographies. PYRAMID is now sold in over 86,000 stores across the country, and we've added distribution in over 35,000 stores in 2011, with gains of almost 9,000 stores in the fourth quarter of the year.

Importantly, among our fourth quarter distribution achievements, the brand was added to Walmart stores nationwide. We expect PYRAMID's growth trends to continue as we add new national and regional chains, as well as independent retailers across the country.

As noted in our previous call, we determined that market conditions in the third quarter presented an appropriate opportunity to increase the price of PYRAMID by $1.10 per carton. We announced and implemented the price increase at the end of August, enabling us to add margin to the brand, while at the same time, continuing to increase market share.

Fourth quarter represented the first full reporting period for PYRAMID at its new higher price point. By the end of the fourth quarter, all major deep discount competitors had raised prices as well.

Liggett Select, Grand Prix and Eve. Over the course of 2011, the deep discount cigarette category became more significantly represented by brands of large domestic and international manufacturers, rather than the renegade companies that dominated the category in previous years.

To that end, based upon fourth quarter MSAI data, the big 3 companies currently comprise over 53% of the industry deep discount segment, while Reynolds has led the way with its Pall Mall brand, Altria has become an aggressive player in the lowest price segment with its L&M brand, and Lorillard continues to support Maverick.

In addition, Japan Tobacco has been aggressive with its Wings brand, while Korea Tobacco has recently engaged in what we believe is below cost pricing with its brand, Timeless Time. While JTI and KT&G grew during 2011 as a result of their aggressive pricing levels, it's important to note that their volume base remains comparatively low.

Of course, we are watching these brands and other developments in the discount market closely.

Additionally, in part to support the growth of their deep discount brands, we continue to believe that the big 3 cigarette manufacturers are putting stringent and potentially anticompetitive requirements on retailers. This is something we are also closely monitoring.

As noted, a major challenge facing legitimate cigarette manufacturers is the extraordinary growth of companies that we believe are evading federal taxes by knowingly mislabeling role-your-own tobacco as pipe tobacco. While this appears to be a clear and blatant violation of U.S.

tax law as well as various regulations, Congress and regulators have been slow to address the problem. As a result of this mislabeling, the sale of pipe tobacco has dramatically increased, up more than fourfold by 419% in the 2.75 years since the federal excise tax increase, and it continues to grow at a disturbingly high rate.

As evidence of that, during the first 11 months of 2011, mislabeled pipe tobacco grew by over 32% and now represents over $17.5 billion cigarette equivalents per year. That equates to almost 6% of the U.S.

cigarette market, quite astounding.

Based upon Center for Disease Control and Prevention data, it is estimated that there are now over 2.7 million mislabeled pipe tobacco smokers in the United States. Importantly, it is our belief that the Federal Treasury will have been denied more than $2 billion in tax revenue it expected to collect between April of '09 and December of '11, with over $1 billion of that loss in calendar year 2011 alone.

While these and other activities of competitors continue to create real challenges in the fourth quarter, PYRAMID and our profits continued to grow. Recently, we have seen a number of individual states take legislative or regulatory actions to address some or all of the aspects of the mislabeled pipe tobacco situation, and we remain hopeful that the federal government will act at some point to finally end this tax evasion.

In any event, we remain prepared to meet these challenges head-on in the marketplace, as well as the halls of Congress. As we have previously explained, Liggett and all companies with an MSA grandfathered market share exemption determine the value of that exemption by multiplying their respective share exemption percentage by taxable industry shipments.

The value of the exemption increases annually by an inflation factor of a minimum of 3%. As a result, the historical 2.5% to 3% annual industry decline typically balances with the inflation factor, keeping the value of the MSA exemption relatively stable.

However, for each percent that industry shipments decline more than 3%, we estimate that we lose approximately $1.8 million of our exemption value.

In 2009, due to the large Federal excise tax increase, the industry suffered a taxable shipment decline of 8.6%. In 2010, the taxable shipment decline was 5.4%, which significantly outpaced the wholesale shipment decline of 3.8%.

Full year numbers for 2011, recently received from the Tobacco Tax and Trade Bureau, indicate that our previously reported estimate of a 3% decline in industry shipments is in the correct range. As you know, the tobacco industry has been subject to the regulatory authority of FDA since June 2009.

While the process is still developing, there continues to be a great deal of uncertainty regarding FDA's regulation and many open issues remain. We are closely monitoring FDA's various activities, including that of their advisory committees, and we remain confident that we'll be able to comply with all aspects of the legislation.

In June of 2011, the FDA revealed the 9 pictorial images that are scheduled to be required on cigarette packaging and advertising beginning in the fall of 2012. These graphic images will be required to be posted on the top 50% of the front and back on cigarette packs and cartons and will also be required to be on 20% of any cigarette advertising.

Liggett is taking steps to plan for this change, and we'll be prepared to implement them as necessary at the appropriate time.

That said, we have also joined with Reynolds, Lorillard, Commonwealth and Santa Fe to challenge the legality of the FDA's graphic warnings in Federal District Court in Washington, D.C. In November of 2011, the District Court granted the industry's motion for a preliminary injunction in joining implementation of the proposed rules for graphic labels on cigarette packaging until 15 months after the District Court issues a final ruling in the case.

In its opinion, the court concluded that there was a substantial likelihood that the industry will prevail on the merits that the graphic warnings violate the First Amendment. The court heard oral argument on the parties' cross-motions for summary judgment earlier this month and a ruling is expected in April.

The FDA has appealed the District Court's preliminary injunction ruling and oral argument is set for April at the U.S. Court of Appeals for the DC circuit.

Multiple organizations, including the U.S. Chamber of Commerce, have moved to file friend of the court briefs in the Court of Appeals in support of the industry's position.

The Chamber of Commerce's brief argues that the federal government may not commandeer valuable advertising and marketing space from private commercial enterprises. As you can imagine, it may be sometime before the courts definitively decide this issue.

We continue to believe that the prescribed graphic warning labels are, in fact, a clear violation of our First Amendment rights, and we intend to vigorously pursue our legal challenge to these warnings.

Let me wrap up my comments by again saying that we're very pleased with Liggett's profit and market share performance in 2011. Our entire team remains committed to meeting the challenges of a difficult and challenging marketplace, while pursuing opportunities that we believe will enhance the long-term strength and profitability of Liggett.

There is no doubt there will be new challenges, but I remain confident that Liggett is well positioned to meet them and to continue to succeed in the future.

Thanks for your attention, and back to you Howard.

Thank you, Ron. As I mentioned at the start of this call, we are pleased with our performance and continue to believe that Vector Group is well positioned.

We have strong cash reserves, have significantly grown our cigarette volumes and market share in the past 30 months, and will continue to benefit from our favorable terms under the MSA. Additionally, we are proud of the company's uninterrupted track record of paying a regular quarterly cash dividend since 1995, and an annual 5% stock dividend since 1999.

The company, once again, reaffirms that our cash dividend policy remains the same.

Now, operator, would you please open the call for questions?

I was wondering if you could comment on your strategy for 2012 between growing market share further and increasing profitability. And specifically, are you looking at further price increases on any of your brands?

As far as our strategy for 2012, we will continue to be balanced in our approach relative to volume and margin opportunities. While we, obviously, don't predict what the price increases will be and when they'll be, we're always looking for opportunities to increase the margin base on our products.

We feel good about PYRAMID and its continued growth over the course of 2012, and we will benefit over the course of the year from the higher margin on the brand that went into effect in the fourth quarter. So our expectation is that we will be able to continue to grow the brand and to continue to build margin.

Can you comment at all on what were the increases in volumes at PYRAMID year-over-year and what kind of decreases in volumes you saw on your other major brands?

Yes, we've stayed away from giving out that specific information. But the, obviously, overall growth of volumes for the company indicates that the growth is coming from PYRAMID.

We are suffering declines from other brands, but within ranges that are manageable and also that give credence to the added margin that we're generating on those brands.

Okay. And in terms of the number of stores that will carry PYRAMID, so you were up 9,000 in the fourth quarter, 35,000 for the year, what -- can you give us an idea, what kind of further growth we might expect in terms of the number of doors that will be carrying the PYRAMID brand?

Yes, I mean we're in over 86,000 stores at this point. And we anticipate that the store count will continue to grow.

Again, we're not going to predict specific store amounts, but as the brand has taken off as a national brand, again, the second largest discount brand in the country, it is working its way into more stores even beyond those that we are soliciting simply because the brand is being asked for. So we expect that the store growth will continue in '12.

Was that 9,000 in the fourth quarter, was that mostly Walmart or was that most of the component of that increase?

It was a substantial portion of it. But there were other stores as well.

We are continuing to add independent retail stores every week, and are picking up small and intermediate sized chains as well.

Just to follow-up on Ken's question, can you comment, if you're not going to talk about expected growth in stores, I can understand that, can you comment on where you are quarter-to-date and what you've seen for growth so far?

Yes, I can't give you exact numbers for quarter-to date, but the growth is continuing. We're steadily -- every week, we're picking up additional independent retail stores, and again, small and intermediate chains.

So the store count continues to rise, but again, I'm not going to predict where it's going.

Okay, and can you comment, with respect to Walmart, how deeply penetrated you are with them at this point? [indiscernible] part of the fourth quarter growth, can you comment on how much is left to do in terms of the chain there?

Yes, we are now represented across the board with Walmart. So all stores that are selling cigarettes are carrying PYRAMID.

So the full sort of penetration [ph] there?

Yes.

Yes, just a couple of follow-ups. One, can you tell us what total MSA payments were for 2011?

And were all those payments made in fiscal[ph] 2011, or is there a big chunk still to be made in the first part of 2012?

Yes, the total MSA payments will be in the range of $150 million, and approximately $100 million of that was made in 2011 with approximately $50 million to be made at the April 15 deadline.

Okay, and was there a fair amount of that in the fourth quarter?

Yes.

Ron. It's Bryant.

The total payments that we've made in April and December were $130 million in 2011. And part of that was related to the April payment.

And when do you plan to file the 10-K?

This afternoon.

Just a couple of follow-up questions, housekeeping items. Revolver availability at the end of the quarter and CapEx for the year, can you tell me what those numbers were?

Okay. Revolver availability was between $14 million and $15 million.

CapEx for the year, just a minute.

About $10 million.

Yes, it was $11.8 million. And $10 million of that was at Liggett.

You said that revolver availability was $14 million to $15 million or that, that was drawn via LCs.

No, there was $21 million drawn on the revolver. There was $21.5 million drawn on the revolver and $14.5 million available.

Thank you, operator, and I'd like to thank everyone for being on this conference call. And we look forward to speaking to you next quarter.

As always, B.K., Ron and myself are available to answer any questions you may have. Thank you for participating today, and have a good day.