UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549-1004

FORM 10-Q

(Mark One)

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For quarterly period ended June 30, 2007

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     

Commission File Number 0-17506

UST Inc.

Delaware		06-1193986
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

100 West Putnam Avenue, Greenwich, CT		06830
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (203) 661-1100

NONE

Indicate by check mark whether Registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer þ Accelerated filer o Non-accelerated filer o

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

Number of Common Shares ($.50 par value) outstanding at July 31, 2007 159,068,783

 

 

UST Inc.

(“Registrant” or the “Company”)

INDEX

		Page No.
Part I. Financial Information:
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Statement of Financial Position - June 30, 2007 and December 31, 2006		2
Condensed Consolidated Statement of Operations - Three and six months ended June 30, 2007 and 2006		3
Condensed Consolidated Statement of Cash Flows - Six months ended June 30, 2007 and 2006		4
Notes to Condensed Consolidated Financial Statements		5
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		20
Item 3. Quantitative and Qualitative Disclosures about Market Risk		50
Item 4. Controls and Procedures		51
Part II. Other Information:
Item 1. Legal Proceedings		52
Item 1A. Risk Factors		52
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		53
Item 5. Other Information		53
Item 6. Exhibits		54
Signatures		55
EX-2.1: INTEREST PURCHASE AGREEMENT
EX-10.4: AMENDMENT TO THE UST INC. LONG-TERM INCENTIVE PLAN
EX-31.1: CERTIFICATION
EX-31.2: CERTIFICATION
EX-32: CERTIFICATION

Part I. FINANCIAL INFORMATION

		June 30, 2007				December 31, 2006
		(Unaudited)				(Note)
Assets:
Current assets:
Cash and cash equivalents		$	304,587			$	254,393
Short-term investments			40,000				20,000
Accounts receivable			58,717				52,501
Inventories:
Leaf tobacco			179,692				201,035
Products in process			206,795				233,741
Finished goods			157,259				145,820
Other materials and supplies			23,635				20,662
Total inventories			567,381				601,258
Deferred income taxes			25,325				11,370
Income taxes receivable			18,000				—
Assets held for sale			1,816				31,452
Prepaid expenses and other current assets			42,155				27,136
Total current assets			1,057,981				998,110
Property, plant and equipment, net			388,757				389,810
Deferred income taxes			32,355				26,239
Other assets			26,129				26,189
Total assets		$	1,505,222			$	1,440,348
Liabilities and Stockholders’ Equity:
Current liabilities:
Accounts payable and accrued expenses		$	202,057			$	268,254
Income taxes payable			—				18,896
Litigation liability			130,935				12,927
Total current liabilities			332,992				300,077
Long-term debt			840,000				840,000
Postretirement benefits other than pensions			89,918				86,413
Pensions			151,414				142,424
Income taxes payable			38,033				—
Other liabilities			9,899				5,608
Total liabilities			1,462,256				1,374,522
Contingencies (see Note 14)
Stockholders’ equity:
Capital stock (1)			105,418				104,956
Additional paid-in capital			1,077,406				1,036,237
Retained earnings			687,410				635,272
Accumulated other comprehensive loss			(53,430	)			(56,871	)
			1,816,804				1,719,594
Less treasury stock (2)			1,773,838				1,653,768
Total stockholders’ equity			42,966				65,826
Total liabilities and stockholders’ equity		$	1,505,222			$	1,440,348

Note: The Condensed Consolidated Statement of Financial Position at December 31, 2006 has been derived from the audited financial statements at that date.

See Notes to Condensed Consolidated Financial Statements.

UST Inc.

CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS

(In thousands, except per share amounts)

(Unaudited)

		Three Months Ended								Six Months Ended
		June 30,								June 30,
		2007				2006				2007				2006
Net sales		$	491,254			$	472,900			$	938,272			$	906,541
Costs and expenses:
Cost of products sold			112,787				98,902				215,914				191,093
Excise taxes			14,062				13,512				26,588				25,531
Selling, advertising and administrative			132,899				134,902				265,959				266,610
Restructuring charges			3,908				—				7,428				—
Antitrust litigation			—				—				122,100				1,350
Total costs and expenses			263,656				247,316				637,989				484,584
Gain on sale of corporate headquarters building			—				—				105,143				—
Operating income			227,598				225,584				405,426				421,957
Interest, net			8,555				10,793				18,130				22,263
Earnings before income taxes			219,043				214,791				387,296				399,694
Income tax expense			79,072				80,136				139,812				149,126
Net earnings		$	139,971			$	134,655			$	247,484			$	250,568
Net earnings per share:
Basic		$	0.88			$	0.84			$	1.55			$	1.55
Diluted			0.87				0.83				1.53				1.54
Dividends per share		$	0.60			$	0.57			$	1.20			$	1.14
Average number of shares:
Basic			159,557				160,791				159,762				161,194
Diluted			161,104				162,240				161,340				162,442

See Notes to Condensed Consolidated Financial Statements.

UST Inc.

CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS

(In thousands)

(Unaudited)

		Six Months Ended June 30,
		2007				2006
Operating Activities:
Net earnings		$	247,484			$	250,568
Adjustments to reconcile net earnings to net cash provided by operating activities:
Depreciation and amortization			22,545				22,897
Share-based compensation expense			7,001				4,551
Excess tax benefits from share-based compensation			(6,619	)			(1,285	)
Gain on sale of corporate headquarters building			(105,143	)			—
Gain on disposition of property, plant and equipment			(629	)			(2,154	)
Amortization of imputed rent on corporate headquarters building			3,851				—
Deferred income taxes			(6,622	)			(4,671	)
Changes in operating assets and liabilities:
Accounts receivable			(6,216	)			6,453
Inventories			33,877				32,145
Prepaid expenses and other assets			(3,777	)			3,352
Accounts payable, accrued expenses, pensions and other liabilities			(53,373	)			(51,846	)
Income taxes			(8,412	)			22,867
Litigation liability			118,008				443
Net cash provided by operating activities			241,975				283,320
Investing Activities:
Short-term investments, net			(20,000	)			10,000
Purchases of property, plant and equipment			(22,582	)			(10,937	)
Proceeds from dispositions of property, plant and equipment			130,456				6,024
Investment in joint venture			(71	)			(785	)
Net cash provided by investing activities			87,803				4,302
Financing Activities:
Proceeds from the issuance of stock			26,122				22,950
Excess tax benefits from share-based compensation			6,619				1,285
Dividends paid			(192,255	)			(184,013	)
Stock repurchased			(120,070	)			(99,975	)
Net cash used in financing activities			(279,584	)			(259,753	)
Increase in cash and cash equivalents			50,194				27,869
Cash and cash equivalents at beginning of year			254,393				202,025
Cash and cash equivalents at end of the period		$	304,587			$	229,894
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Income taxes		$	154,866			$	133,084
Interest			28,575				28,575

See Notes to Condensed Consolidated Financial Statements.

UST Inc.

(In thousands, except per share amounts or where otherwise noted)

1 — BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X issued by the U.S. Securities and Exchange Commission. Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles (“GAAP”) for complete financial statements. Management believes that all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. The condensed consolidated financial statements include the accounts of UST Inc. (the “Company”) and all of its subsidiaries after the elimination of intercompany accounts and transactions. Operating results for the six month period ended June 30, 2007 are not necessarily indicative of the results that may be expected for the year ended December 31, 2007. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2006 (“2006 Form 10-K”).

2 — RECENT ACCOUNTING PRONOUNCEMENTS

In June 2006, the Financial Accounting Standards Board (“FASB”) issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109, Accounting for Income Taxes (“FIN 48”), to create a single model to address accounting for uncertainty in tax positions. The Company adopted the provisions of FIN 48 on January 1, 2007, as required. See Note 6, “Income Taxes” for more details.

In September 2006, the FASB issued Statement of Financial Accounting Standards (“SFAS”) No. 157, Fair Value Measurements (“SFAS No. 157”). SFAS No. 157 provides a common definition of fair value to be applied to existing GAAP requiring the use of fair value measures, establishes a framework for measuring fair value and enhances disclosure about fair value measures under other accounting pronouncements, but does not change existing guidance as to whether an asset or liability is carried at fair value. SFAS No. 157 is to be applied on a prospective basis, with limited exceptions for specified financial instruments. SFAS No. 157 is effective for fiscal years beginning after November 15, 2007, and, as such, the Company plans to adopt the provisions of SFAS No. 157 on January 1, 2008. The Company is in the process of evaluating the impact that the adoption of this pronouncement will have on its results of operations and financial condition.

In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities-Including an Amendment of FASB Statement No. 115 (“SFAS No. 159”). SFAS No. 159 permits entities to irrevocably choose to measure many financial instruments and certain other items at fair value. SFAS No. 159 is effective for fiscal years beginning after November 15, 2007. For any eligible items that exist at the effective date for which an entity chooses to elect the fair value option, the effect of the first remeasurement to fair value shall be reported as a cumulative-effect adjustment to the opening balance of retained earnings. The Company is in the process of evaluating the impact that this pronouncement may have on its results of operations and financial condition.

UST Inc.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

3 — CAPITAL STOCK

The Company repurchased approximately 1.3 million shares of outstanding common stock at a cost of approximately $70 million during the quarter ended June 30, 2007. During the first six months of 2007, the Company repurchased approximately 2.1 million shares of outstanding common stock at a cost of approximately $120.1 million. The repurchases were made pursuant to the Company’s authorized program, approved in December 2004, to repurchase up to 20 million shares of its outstanding common stock. As of June 30, 2007, approximately 9.2 million shares have been repurchased at a cost of approximately $437 million under the program.

4 — SHARE-BASED COMPENSATION

The Company accounts for share-based compensation in accordance with the provisions of SFAS No. 123(R), Share-Based Payment, (“SFAS No. 123(R)”). SFAS No. 123(R) requires all share-based payments issued to acquire goods or services, including grants of employee stock options, to be recognized in the statement of operations based on their fair values, net of estimated forfeitures. SFAS No. 123(R) requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. Compensation expense related to share-based awards is recognized over the requisite service period, which is generally the vesting period.

The following table provides a breakdown by line item of the pre-tax share-based compensation expense recognized in the Condensed Consolidated Statement of Operations for the three and six months ended June 30, 2007 and 2006, respectively, as well as the related income tax benefit and amounts capitalized as a component of inventory for each period.

		Three Months Ended								Six Months Ended
		June 30,								June 30,
		2007				2006				2007				2006
Selling, advertising and administrative expense (1)		$	4,751			$	2,597			$	6,702			$	4,363
Cost of products sold			144				94				288				188
Restructuring charges (2)			2				—				11				—
Total pre-tax share-based compensation expense		$	4,897			$	2,691			$	7,001			$	4,551
Income tax benefit		$	1,954			$	975			$	2,763			$	1,649
Capitalized as inventory			31				23				62				48

UST Inc.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

A summary of the status of restricted stock and restricted stock units for the six months ended June 30, 2007 is presented below:

		Restricted Stock								Restricted Stock Units
						Weighted average								Weighted average
		Number of				grant-date fair				Number of				grant-date fair
		Shares				value per share				Shares				value per share
Nonvested at January 1, 2007			460,438			$	41.17				230,475			$	41.23
Granted			126,300			$	59.83				36,749			$	56.33
Forfeited			(15,699	)		$	59.10				(6,631	)		$	42.01
Vested			(112,729	)		$	46.42				(1,890	)		$	39.75
Nonvested at June 30, 2007			458,310			$	45.73				258,703			$	43.36

In addition to the table above, in May 2007, the Company awarded 106,900 restricted shares for which the performance targets had not been established as of June 30, 2007. In accordance with SFAS No. 123(R), a grant date, for purposes of measuring compensation expense, cannot occur until the performance measures are established, as that is when both the Company and the award recipients would have a mutual understanding of the key terms and conditions of the award.

During the three and six months ended June 30, 2007, 0.1 million and 0.8 million options were exercised with a weighted-average exercise price of $32.97 and $31.48, respectively. At June 30, 2007, there were 4.1 million options outstanding, of which 3.9 million options were exercisable, with weighted-average exercise prices of $33.65 and $32.50, respectively.

UST Inc.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

5 - EMPLOYEE BENEFIT PLANS

In accordance with SFAS No. 132, Employers’ Disclosures About Pensions and Other Postretirement Benefits (Revised 2003), as amended by SFAS No. 158, Employers’ Accounting For Defined Benefit Pension and Other Postretirement Plans, an amendment of FASB Statements No. 87, 88, 106, and 132(R), the following provides the components of net periodic benefit cost for the three and six months ended June 30, 2007 and 2006, respectively:

										Postretirement Benefits
		Pension Plans								Other thanPensions
		Three Months Ended								Three Months Ended
		June 30,								June 30,
		2007				2006				2007				2006
Service cost		$	4,699			$	5,051			$	1,007			$	1,476
Interest cost			8,280				7,565				1,095				1,295
Expected return on plan assets			(7,082	)			(6,532	)			—				—
Amortization of unrecognized transition asset			(2	)			(2	)			—				—
Amortization of prior service cost (credit)			20				4				(1,232	)			(1,556	)
Recognized actuarial loss (gain)			1,139				1,770				(98	)			422
Net periodic benefit cost		$	7,054			$	7,856			$	772			$	1,637

										Postretirement Benefits
		Pension Plans								Other than Pensions
		Six Months Ended								Six Months Ended
		June 30,								June 30,
		2007				2006				2007				2006
Service cost		$	9,457			$	10,040			$	2,309			$	3,004
Interest cost			16,543				15,039				2,431				2,590
Expected return on plan assets			(14,364	)			(12,979	)			—				—
Amortization of unrecognized transition asset			(4	)			(4	)			—				—
Amortization of prior service cost (credit)			38				9				(2,461	)			(3,019	)
Recognized actuarial loss			1,943				3,516				176				834
Special termination benefits			1,974				—				—				—
Net periodic benefit cost		$	15,587			$	15,621			$	2,455			$	3,409

During the first quarter of 2007, the Company recorded a charge for special termination benefits related to its defined benefit pension plans in connection with an executive officer’s separation from service.

As previously disclosed in the 2006 Form 10-K, the Company expects to contribute $7.2 million to its non-qualified defined benefit pension plans in 2007.

UST Inc.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

6 — INCOME TAXES

The Company’s income tax provision takes into consideration pre-tax income, statutory tax rates and the Company’s tax profile in the various jurisdictions in which it operates. The tax bases of the Company’s assets and liabilities reflect its best estimate of the future tax benefit and costs it expects to realize when such amounts are included in its tax returns. Quantitative and probability analysis, which incorporates management’s judgment, is required in determining the Company’s effective tax rate and in evaluating its tax positions. The Company recognizes tax benefits in accordance with the provisions of FIN 48, which it adopted as of January 1, 2007. Prior to the Company’s adoption of FIN 48, accruals for uncertain income tax positions were established in accordance with SFAS No. 5, Accounting for Contingencies.

Upon the adoption of FIN 48, the Company recognized a $16.4 million increase in the liability for unrecognized tax benefits of which $0.1 million was accounted for as a reduction to the opening balance of retained earnings and $16.3 million was accounted for as an adjustment to deferred taxes for amounts related to tax positions for which the ultimate deductibility is highly certain but for which there is uncertainty about the timing of such deductibility. As of January 1, 2007 and June 30, 2007, the total liability for unrecognized tax benefits was $38.2 million and $39.1 million, respectively. The $39.1 million liability for unrecognized tax benefits as of June 30, 2007 represents the gross tax liability for all jurisdictions. This liability, net of federal tax benefit, is reported on the “income taxes payable” line in the non-current liabilities section of the Condensed Consolidated Statement of Financial Position.

The Company recognizes accruals of interest and penalties related to unrecognized tax benefits in income tax expense. During the three months ended June 30, 2007 and 2006, the Company recognized approximately $0.8 million and $0.5 million, respectively, in interest and penalties. For the six months ended June 30, 2007 and 2006, the Company recognized approximately $1.7 million and $0.9 million, respectively, in interest and penalties. As of January 1, 2007 and June 30, 2007, the Company had a liability of approximately $8.2 million and $9.8 million, respectively, for the payment of interest and penalties. This liability is reported on the “income taxes payable” line in the non-current liabilities section of the Condensed Consolidated Statement of Financial Position.

The Company continually and regularly evaluates, assesses and adjusts its accruals for income taxes in light of changing facts and circumstances, which could cause the effective tax rate to fluctuate from period to period. Of the total $39.1 million of unrecognized tax benefits as of June 30, 2007, approximately $22.3 million would impact the annual effective tax rate if such amounts were recognized. The remaining $16.8 million of unrecognized tax benefits relate to tax positions for which the ultimate deductibility is highly certain but for which there is uncertainty about the timing of such deductibility. Because of the impact of deferred tax accounting, other than interest and penalties, the disallowance of the shorter deductibility period would not affect the annual effective tax rate but would accelerate the payment of cash to the taxing authority to an earlier period. Based on information obtained to date, the Company believes it is reasonably possible that the total amount of unrecognized tax benefits could decrease by $2.2 million within the next 12 months due to lapses in statutes of limitations in multiple state jurisdictions.

The Internal Revenue Service (“IRS”) and other tax authorities in various states and foreign jurisdictions audit the Company’s income tax returns on a continuous basis. Depending on the tax jurisdiction, a number of years may elapse before a particular matter for which the Company has an unrecognized tax benefit is audited and ultimately resolved. With few exceptions, the Company is no longer subject to federal, state and local or foreign income tax examinations by tax authorities for years before 2003. While it is often difficult

UST Inc.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

to predict the timing of tax audits and their final outcome, the Company believes that its estimates reflect the most likely outcome of known tax contingencies. However, the final resolution of any such tax audit could result in either a reduction in the Company’s accruals or an increase in its income tax provision, both of which could have a significant impact on its results of operations in any given period.

The Company’s effective tax rate decreased to 36.1 percent for both the second quarter and first six months of 2007, from 37.3 percent for both the second quarter and first six months of 2006. The decrease in the effective tax rate for both 2007 periods, as compared to 2006, was primarily due to the scheduled statutory increase in 2007 for the deduction available for qualified domestic production activities.

7 — SEGMENT INFORMATION

The Company’s reportable segments are Smokeless Tobacco and Wine. Those business units that do not meet quantitative reportable thresholds are included in All Other Operations. Included in All Other Operations for both periods are the Company’s international operations. Interim segment information is as follows:

		Three Months Ended June 30,								Six Months Ended June 30,
		2007				2006				2007				2006
Net Sales to Unaffiliated Customers
Smokeless Tobacco		$	399,018			$	399,110			$	766,451			$	765,388
Wine			79,519				62,000				148,295				118,309
All Other			12,717				11,790				23,526				22,844
Net sales		$	491,254			$	472,900			$	938,272			$	906,541
Operating Profit (1)
Smokeless Tobacco (2)		$	223,758			$	219,452			$	294,748			$	411,142
Wine			11,235				9,387				22,379				17,923
All Other			4,945				3,911				8,941				7,619
Operating profit			239,938				232,750				326,068				436,684
Gain on Sale of Corporate Headquarters Building			—				—				105,143				—
Corporate expenses (1)			(12,340	)			(7,166	)			(25,785	)			(14,727	)
Interest, net			(8,555	)			(10,793	)			(18,130	)			(22,263	)
Earnings before income taxes		$	219,043			$	214,791			$	387,296			$	399,694

The Company’s identifiable assets by reportable segment as of June 30, 2007 did not change significantly from amounts appearing in the December 31, 2006 Consolidated Segment Information (See the 2006 Form 10-K), with the exception of corporate assets which reflect an increase in cash and cash equivalents primarily related to the sale of the corporate headquarters building (See Note 8, “Assets Held For Sale” for further information).

UST Inc.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

8 — ASSETS HELD FOR SALE

The Company had $1.8 million classified as “assets held for sale” at June 30, 2007, which consisted of the Company’s corporate conference center located in Watch Hill, Rhode Island. As noted in the 2006 Form 10-K, this property initially met the criteria to be considered held for sale under SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, at December 31, 2006. There have been no impairment charges recorded with respect to this property, as its net carrying value is lower than its estimated fair value less costs to sell. The Company currently anticipates that the sale of the Watch Hill conference center will occur later in 2007.

In January 2007, the Company sold a winery property located in the State of Washington for net proceeds of $3.1 million, resulting in a pre-tax gain of $2 million, which was recorded as a reduction to selling, advertising and administrative (“SA&A”) expenses in the Condensed Consolidated Statement of Operations. Prior to this transaction, the property was included within “assets held for sale” on the December 31, 2006 Consolidated Statement of Financial Position.

In March 2007, the Company finalized the sale of its corporate headquarters for cash proceeds of $130 million, as well as a below-market, short-term lease with an imputed fair market value of approximately $6.7 million. This sale resulted in a pre-tax gain of approximately $105 million, which is reported on the “gain on sale of corporate headquarters building” line in the Condensed Consolidated Statement of Operations. Prior to this transaction, the property was included within “assets held for sale” on the December 31, 2006 Consolidated Statement of Financial Position.

In March 2006, the Company sold a winery property located in California with a carrying value of $3.4 million for net proceeds of $5.9 million, resulting in a pre-tax gain of $2.5 million, which was recorded as a reduction to SA&A expenses in the Condensed Consolidated Statement of Operations.

9 — NET EARNINGS PER SHARE

Basic earnings per share is computed by dividing net earnings by the weighted-average number of shares of common stock outstanding during the period. Diluted earnings per share is computed by dividing net earnings by the weighted-average number of shares of common stock outstanding during the period, increased to include the number of shares of common stock that would have been outstanding had all potentially dilutive shares of common stock been issued. The dilutive effect of outstanding options, restricted stock and restricted stock units is reflected in diluted earnings per share by applying the treasury stock method under SFAS No. 128, Earnings per Share. Under the treasury stock method, an increase in the fair value of the Company’s common stock can result in a greater dilutive effect from outstanding options, restricted stock and restricted stock units. Furthermore, the exercise of options and the vesting of restricted stock and restricted stock units can result in a greater dilutive effect on earnings per share than that recognized under the treasury stock method.

UST Inc.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

The following table presents the computation of basic and diluted net earnings per share:

		Three Months Ended								Six Months Ended
		June 30,								June 30,
		2007				2006				2007				2006
Numerator:
Net earnings		$	139,971			$	134,655			$	247,484			$	250,568
Denominator:
Denominator for basic earnings per share — weighted-average shares			159,557				160,791				159,762				161,194
Dilative effect of share-based awards			1,547				1,449				1,578				1,248
Denominator for diluted earnings per share			161,104				162,240				161,340				162,442
Basic earnings per share		$	0.88			$	0.84			$	1.55			$	1.55
Diluted earnings per share		$	0.87			$	0.83			$	1.53			$	1.54

Options to purchase approximately ten thousand and nine thousand shares of common stock outstanding as of June 30, 2007 and 2006, respectively, were not included in the computation of diluted earnings per share because their exercise prices were greater than the average market price of the Company’s common stock and, therefore, were antidilutive.

10 — COMPREHENSIVE INCOME

The components of comprehensive income for the Company are net earnings, foreign currency translation adjustments, the change in the fair value of derivatives designated as effective cash flow hedges and changes in deferred components of net periodic pension and other postretirement benefit costs. For the second quarter of 2007 and 2006, total comprehensive income, net of taxes, amounted to $143.5 million and $136.4 million, respectively. For the first six months of 2007 and 2006, total comprehensive income, net of taxes, amounted to $250.9 million and $252.8 million, respectively.

11 - PURCHASE COMMITMENTS

As of June 30, 2007, the Company had entered into unconditional purchase obligations in the form of contractual commitments. Unconditional purchase obligations are commitments that are either noncancelable or cancelable only under certain predefined conditions.

As of June 30, 2007, the Company has contractual obligations of approximately $59.5 million for the purchase of leaf tobacco to be used in the production of moist smokeless tobacco products. In the first quarter of 2007, the Company completed $15.3 million in leaf tobacco purchases related to all contracts outstanding at December 31, 2006. There are no contractual obligations to purchase leaf tobacco with terms beyond one year.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

Purchase commitments under contracts to purchase grapes for the periods beyond one year are subject to variability resulting from potential changes in market price indices. The following table presents a summary of the net change in the Company’s future payment obligations since January 1, 2007, and the balance of such commitments at June 30, 2007, for the purchases and processing of grapes for use in the production of wine, based upon estimated yields and market conditions:

		2007				2008				2009				2010				2011				Thereafter				Total
Grape commitments — January 1, 2007		$	66,805			$	65,605			$	65,776			$	63,193			$	59,047			$	125,011			$	445,437
Net increase			1,130				1,857				2,068				1,929				1,421				4,135				12,540
Grape commitments — June 30, 2007		$	67,935			$	67,462			$	67,844			$	65,122			$	60,468			$	129,146			$	457,977

12 - DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

The Company has hedged against the variability of forecasted interest payments attributable to changes in interest rates through the date of an anticipated debt issuance in 2009 via a forward starting interest rate swap. The forward starting interest rate swap has a notional amount of $100 million and the terms call for the Company to receive interest quarterly at a variable rate equal to the London InterBank Offered Rate (“LIBOR”) and to pay interest semi-annually at a fixed rate of 5.715 percent. The fair value of the forward starting interest rate swap at June 30, 2007 was a net asset of $0.6 million, based on a dealer quote, considering current market rates, and was included in “other assets” on the Condensed Consolidated Statement of Financial Position. Accumulated other comprehensive income at June 30, 2007 included the accumulated gain on the cash flow hedge (net of taxes) of $0.4 million, which reflects the $2.2 million and $2.4 million of other comprehensive income recognized for the three and six months ended June 30, 2007, respectively, in connection with the change in fair value of the swap.

The Company has hedged the interest rate risk on its $40 million aggregate principal amount of floating rate senior notes with a ten-year interest rate swap having a notional amount of $40 million and quarterly settlement dates over the term of the contract. The Company pays a fixed rate of 7.25 percent and receives a floating rate of three-month LIBOR plus 90 basis points on the notional amount. The fair value of the swap at June 30, 2007 was a net liability of $0.7 million, based on a dealer quote, considering current market conditions, and was included in “other liabilities” on the Condensed Consolidated Statement of Financial Position. Accumulated other comprehensive loss at June 30, 2007 included the accumulated loss on the cash flow hedge (net of taxes) of $0.5 million, which reflects the $0.7 million and $0.2 million of other comprehensive income recognized for the three and six months ended June 30, 2007, respectively, in connection with the change in fair value of the swap.

13 - RESTRUCTURING

During the third quarter of 2006, the Company announced and commenced implementation of a cost-reduction initiative called “Project Momentum,” with targeted savings of at least $100 million over its first three years. This initiative is designed to create additional resources for growth via operational productivity and efficiency enhancements. The Company believes that such an effort is prudent as it will provide additional financial flexibility in the increasingly competitive smokeless tobacco category. The Company has recently finalized plans on various other initiatives, primarily related to manufacturing operations and

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

procurement functions, expected to generate $50 million in additional savings beyond the initial $100 million of targeted savings. The incremental $50 million of savings are expected to be realized in 2008 and 2009.

In connection with the continued implementation of Project Momentum, restructuring charges of $3.9 million and $7.4 million, related to the aforementioned $100 million in savings, were recognized for the three and six months ended June 30, 2007, respectively, and are reported on the “restructuring charges” line in the Condensed Consolidated Statement of Operations. These charges were incurred in connection with the formal plans undertaken by management and are accounted for in accordance with SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities. The recognition of restructuring charges involves the use of judgments and estimates regarding the nature, timing and amount of costs to be incurred under Project Momentum. While the Company believes that its estimates are appropriate and reasonable based upon the information available, actual results could differ from such estimates. The following table provides a summary of restructuring charges incurred for the three and six months ended June 30, 2007, as well as cumulative charges incurred to date and the total amount of charges expected to be incurred, in connection with Project Momentum, for each major type of cost associated with the initiative:

		Restructuring				Restructuring
		Charges Incurred				Charges				Cumulative
		for the Three				Incurred for the Six				Charges Incurred				Total Charges
		Months Ended				Months Ended				as of				Expected to be
		June 30, 2007				June 30, 2007				June 30, 2007				Incurred (1)
One-time termination benefits		$	596			$	644			$	16,269			$	19,700-$21,200
Contract termination costs			4				21				411				400 - 500
Other restructuring costs			3,308				6,763				12,745				13,400 - 13,800
Total		$	3,908			$	7,428			$	29,425			$	33,500-$35,500

One-time termination benefits relate to severance-related costs and outplacement services for employees terminated in connection with Project Momentum, as well as enhanced retirement benefits for qualified individuals. Contract termination costs relate to the termination of operating leases in conjunction with the consolidation and relocation of facilities. Other restructuring costs are mainly comprised of other costs directly related to the implementation of Project Momentum, primarily professional fees, as well as asset impairment charges.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

The following table provides a summary of restructuring charges incurred for the three and six months ended June 30, 2007, as well as cumulative charges incurred to date and the total amount of charges expected to be incurred, in connection with Project Momentum, by reportable segment:

		Restructuring				Restructuring
		Charges Incurred				Charges Incurred
		for the Three				for the Six				Cumulative Charges				Total Charges
		Months Ended				Months Ended				Incurred as of				Expected to be
		June 30, 2007				June 30, 2007				June 30, 2007				Incurred
Smokeless Tobacco		$	3,253			$	6,486			$	26,028			$	29,000-$30,700
Wine			—				—				322				400 - 500
All Other Operations			—				—				151				1,100 - 1,200
Total — reportable segments			3,253				6,486				26,501			$	30,500-$32,400
Corporate (unallocated)			655				942				2,924				3,000 - 3,100
Total		$	3,908			$	7,428			$	29,425			$	33,500-$35,500

Accrued restructuring charges are included in the “accounts payable and accrued expenses” line on the Condensed Consolidated Statement of Financial Position. A reconciliation of the changes in the liability balance since December 31, 2006 is presented below.

		One-Time				Contract
		Termination				Termination				Other
		Benefits				Costs				Costs				Total
Balance as of December 31, 2006		$	4,349			$	192			$	52			$	4,593
Add: restructuring charges incurred			644				21				6,763				7,428
Less: payments			(3,429	)			(94	)			(6,175	)			(9,698	)
Less: reclassified liabilities (1)			(11	)			—				(588	)			(599	)
Balance as of June 30, 2007		$	1,553			$	119			$	52			$	1,724

14 — CONTINGENCIES

The Company has been named in certain health care cost reimbursement/third party recoupment/class action litigation against the major domestic cigarette companies and others seeking damages and other relief. The complaints in these cases on their face predominantly relate to the usage of cigarettes; within that context, certain complaints contain a few allegations relating specifically to smokeless tobacco products. These actions are in varying stages of pretrial activities. The Company believes these pending litigation matters will not result in any material liability for a number of reasons, including the fact that the Company has had only limited involvement with cigarettes and the Company’s current percentage of total tobacco industry sales is relatively small. Prior to 1986, the Company manufactured some cigarette products which had a de minimis market share. From May 1, 1982 to August 1, 1994, the Company distributed a small volume of imported cigarettes and is indemnified against claims relating to those products.

UST Inc.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

Smokeless Tobacco Litigation

The Company is named in certain actions in West Virginia brought on behalf of individual plaintiffs against cigarette manufacturers, smokeless tobacco manufacturers, and other organizations seeking damages and other relief in connection with injuries allegedly sustained as a result of tobacco usage, including smokeless tobacco products. Included among the plaintiffs are three individuals alleging use of the Company’s smokeless tobacco products and alleging the types of injuries claimed to be associated with the use of smokeless tobacco products. These individuals also allege the use of other tobacco products.

The Company is named in an action in Florida by an individual plaintiff against various smokeless tobacco manufacturers including the Company for personal injuries, including cancer, oral lesions, leukoplakia, gum loss and other injuries allegedly resulting from the use of the Company’s smokeless tobacco products. The plaintiff also claims nicotine “addiction” and seeks unspecified compensatory damages and certain equitable and other relief, including, but not limited to, medical monitoring.

The Company has been named in an action in Connecticut brought by a plaintiff individually, as executrix and fiduciary of her deceased husband’s estate and on behalf of their minor children for injuries, including “squamous cell carcinoma of the tongue,” allegedly sustained by decedent as a result of his use of the Company’s smokeless tobacco products. The Complaint also alleges “addiction” to smokeless tobacco. The Complaint seeks compensatory and punitive damages in excess of $15 thousand and other relief.

The Company believes, and has been so advised by counsel handling these cases, that it has a number of meritorious defenses to all such pending litigation. Except as to the Company’s willingness to consider alternative solutions for resolving litigation issues, all such cases are, and will continue to be, vigorously defended. The Company believes that the ultimate outcome of such pending litigation will not have a material adverse effect on its consolidated financial results or its consolidated financial position, although if plaintiffs were to prevail, the effect of any judgment or settlement could have a material adverse impact on its consolidated financial results in the particular reporting period in which resolved and, depending on the size of any such judgment or settlement, a material adverse effect on its consolidated financial position. Notwithstanding the Company’s assessment of the potential financial impact of these cases, the Company is not able to estimate with any certainty the amount of loss, if any, which would be associated with an adverse resolution.

Antitrust Litigation

Following a previous antitrust action brought against the Company by a competitor, Conwood Company L.P, the Company was named as a defendant in certain actions brought by indirect purchasers (consumers and retailers) in a number of jurisdictions. As indirect purchasers of the Company’s smokeless tobacco products during various periods of time ranging from January 1990 to the date of certification or potential certification of the proposed class, plaintiffs in those actions allege, individually and on behalf of putative class members in a particular state or individually and on behalf of class members in the applicable states, that the Company has violated the antitrust laws, unfair and deceptive trade practices statutes and/or common law of those states. In connection with these actions, plaintiffs sought to recover compensatory and statutory damages in an amount not to exceed $75 thousand per purported class member or per class member, and certain other relief. The indirect purchaser actions, as filed, were similar in all material respects.

UST Inc.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

Prior to 2007, actions in all but four of the jurisdictions were resolved, either through court-approved settlements or dismissals, including a dismissal in the New Hampshire action that is currently on appeal by the plaintiffs. Pursuant to the settlements, adult consumers received coupons redeemable on future purchases of the Company’s moist smokeless tobacco products, and the Company agreed to pay all related administrative costs and plaintiffs’ attorneys’ fees.

In May 2007, the Company entered into a Memorandum of Understanding to resolve the California class action and a Settlement Agreement to resolve the Wisconsin class action. The Wisconsin Settlement Agreement has been preliminarily approved by the court. For additional details on the resolution of the Wisconsin class action, see “Item 1. Legal Proceedings” in Part II. In connection with the resolution of the Wisconsin and California class actions, the Company recorded a $122.1 million pre-tax charge in the first quarter of 2007 related to the estimated costs to resolve these actions, subject to respective court approval. Approximately $28.5 million of this charge relates to settlement of the Wisconsin action resulting from court-ordered mediation in April 2007. The charge reflects costs attributable to coupons that will be distributed to consumers, which will be redeemable on future purchases of the Company’s moist smokeless tobacco products. Also reflected in the Wisconsin charge are plaintiffs’ attorneys’ fees and other administrative costs of the settlement. The remaining $93.6 million of the first quarter 2007 charge relates to settlement of the California action in May 2007, as a result of court-ordered mediation. This charge brings the total recognized liability for the California action to $96 million, which reflects the cost of cash payments to be made to the benefit of class members, as well as plaintiffs’ attorneys’ fees and other administrative costs of the settlement.

The liability associated with the Company’s estimated costs to resolve all indirect purchaser actions increased to approximately $130.9 million at June 30, 2007, from $12.9 million at December 31, 2006, primarily as a result of the charge recognized for the Wisconsin and California settlements, partially offset by actual coupon redemption and payments of administrative costs related to previous settlements.

To date, indirect purchaser actions in almost all of the jurisdictions have been resolved, including those subject to court approval, leaving two unresolved actions in the States of Pennsylvania and Massachusetts. In the Pennsylvania action, which is before a federal court in Pennsylvania, the Third Circuit Court of Appeals has accepted the Company’s appeal of the trial court’s denial of the Company’s motion to dismiss the complaint. The Company continues to believe there is insufficient basis for plaintiffs’ complaint. The Company also believes the facts and circumstances in the Massachusetts class action will continue to support its defenses. The Company believes, and has been so advised by counsel handling these actions, that it has meritorious defenses in this regard, and they are and will continue to be vigorously defended. The Company believes that the ultimate outcome of these actions will not have a material adverse effect on its consolidated financial results or its consolidated financial position, although if plaintiffs were to prevail, beyond the amounts accrued, the effect of any judgment or settlement could have a material adverse impact on its consolidated financial results in the particular reporting period in which resolved and, depending on the size of any such judgment or settlement, a material adverse effect on its consolidated financial position. Notwithstanding the Company’s assessment of the financial impact of these actions, management is not able to estimate the amount of loss, if any, beyond the amounts accrued, which could be associated with an adverse resolution.

Also, two additional matters remain outstanding in connection with indirect purchaser actions.

Counsel for plaintiffs in the settlement of the Kansas and New York actions filed a motion for an additional amount of approximately $8.5 million in attorneys’ fees, expenses and costs, plus interest, beyond the

UST Inc.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

previously agreed-upon amounts already paid by the Company. An evidentiary hearing on plaintiffs’ motion was held in April 2006. To date, the court has not ruled on the motion. The Company believes, and has been so advised by counsel handling this case, that it has meritorious defenses in this regard, and will continue to vigorously defend against this motion. As such, the Company has not recognized a liability for the additional amounts sought in this motion.

The Company has been served with a purported class action complaint filed in federal court in West Virginia, attempting to challenge certain aspects of a prior settlement approved by the Tennessee state court and seeking additional amounts purportedly consistent with subsequent settlements of similar actions, estimated by plaintiffs to be between $8.9 million and $214.2 million, as well as punitive damages and attorneys’ fees. The Company believes, and has been so advised by counsel handling this case, that it has meritorious defenses in this regard, and will continue to vigorously defend against this complaint. As such, the Company has not recognized a liability for the additional amounts sought in this complaint.

The Company believes that the ultimate outcome of these two matters will not have a material adverse effect on its consolidated financial results or its consolidated financial position, although if plaintiffs were to prevail, the effect of an adverse resolution could have a material adverse impact on its consolidated financial results in the particular reporting period in which resolved and, depending on the size of any such resolution, a material adverse effect on its consolidated financial position. Notwithstanding the Company’s assessment of the financial impact of these actions, management is not able to estimate the amount of loss, if any, which could be associated with an adverse resolution.

Other Litigation

The Company has been named in an action in California brought by the People of the State of California, in the name of the Attorney General of the State of California, alleging that the Company’s sponsorship relating to the National Hot Rod Association violates various provisions of the Smokeless Tobacco Master Settlement Agreement (“STMSA”) and the related Consent Decree entered in connection with the STMSA (see Note 15, “Other Matters” for additional information regarding the STMSA). The complaint seeks declaratory and injunctive relief, unspecified monetary sanctions, attorneys’ fees and costs, and a finding of civil contempt. In July 2007, the parties reached a non-binding agreement in principle to resolve this matter. In connection with such agreement, a charge was recognized during the second quarter of 2007. The proceedings have been stayed pending the parties’ drafting and negotiation of a stipulation and final judgment. For additional details see “Item 1. Legal Proceedings” in Part II.

In the event the parties do not reach an agreement as to the terms of the stipulation and judgment referenced above, the foregoing case will continue to be vigorously defended. In this regard, the Company believes, and has been so advised by counsel handling the foregoing case, that it has a number of meritorious defenses.

15 - OTHER MATTERS

     On October 22, 2004, the “Fair and Equitable Tobacco Reform Act of 2004” (the “Tobacco Reform Act”) was enacted in connection with a comprehensive federal corporate reform and jobs creation bill. Under the Tobacco Reform Act, the Secretary of Agriculture imposes quarterly assessments on tobacco manufacturers and importers used to fund a trust to compensate tobacco quota farmers. The Company does not believe that the assessments imposed under the Tobacco Reform Act will have a material adverse impact on its

UST Inc.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)

consolidated financial position, results of operations or cash flows in any reporting period. The Company recognized charges of approximately $0.9 million and $1.9 million for the three and six months ended June 30, 2007, respectively, and $0.9 million and $1.5 million for the three and six months ended June 30, 2006, respectively, associated with the assessments required by the Tobacco Reform Act.

In November 1998, the Company entered into the STMSA with the attorneys general of various states and U.S. territories to resolve the remaining health care cost reimbursement cases initiated against the Company. The STMSA required the Company to adopt various marketing and advertising restrictions and make payments potentially totaling $100 million over a minimum of 10 years for programs to reduce youth usage of tobacco and combat youth substance abuse and for enforcement purposes. For the second quarter and six months ended June 30, 2007, total charges recorded by the Company in connection with the STMSA were $4.6 million and $9.2 million, respectively. Total charges recorded by the Company in connection with the STMSA for the second quarter and six months ended June 30, 2006 were $4.2 million and $8.4 million, respectively.

For further information on both items, refer to Part II, Item 8 “Financial Statements and Supplementary Data — Notes to the Consolidated Financial Statements — Note 22, Other Matters,” in the 2006 Form 10-K.

16 – BORROWING ARRANGEMENTS

On June 29, 2007, the Company entered into a $300 million, five-year revolving credit facility (the “Credit Facility”) which will primarily be used for general corporate purposes, including the support of commercial paper borrowings. The Company may elect to increase its borrowing capacity under the Credit Facility to $500 million subject to certain terms. The Credit Facility replaces the Company’s previous $300 million, three-year revolving credit facility which was terminated on June 29, 2007, shortly before its July 9, 2007 contractual expiration. The Company did not have any borrowings under the Credit Facility at June 30, 2007.

Costs of approximately $0.3 million associated with the establishment of the Credit Facility were capitalized and will be amortized over the applicable term. The Credit Facility requires the maintenance of a fixed charge coverage ratio, the payment of commitment and administrative fees and includes affirmative and negative covenants customary for facilities of this type. The commitment fee payable on the unused portion of the Credit Facility is determined based on an interest rate, within a range of rates, dependent upon the Company’s senior unsecured debt rating. The commitment fee currently payable is 0.05 percent per annum.

17 – SUBSEQUENT EVENTS

In July 2007, the Company executed an agreement to purchase Stag’s Leap Wine Cellars (“Stag’s Leap”) and its signature Napa Valley, CA vineyards for approximately $185 million, subject to certain closing conditions. The purchase will be completed through one of the Company’s consolidated subsidiaries, with a 15 percent minority interest to be held by Marchesi Antinori S.r.l.(“Antinori”), and is expected to close in September 2007.

Item 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of the Company’s consolidated results of operations and financial condition should be read in conjunction with the condensed consolidated financial statements and notes to the condensed consolidated financial statements within this Form 10-Q, as well as the consolidated financial statements and notes thereto included in the 2006 Form 10-K. Herein, the Company makes forward-looking statements that involve risks, uncertainties and assumptions. Actual results may differ materially from those anticipated in those forward-looking statements as a result of various factors, including, but not limited to, those presented under “Cautionary Statement Regarding Forward-Looking Information” within “Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”).” In addition, the Company has presented certain risk factors relevant to the Company’s business included in Item 1A in Part I of the 2006 Form 10-K.

INTRODUCTION

MD&A is provided as a supplement to the accompanying consolidated financial statements and notes thereto, to assist individuals in their review of such statements. MD&A has been organized as follows:

	•		OVERVIEW – This section provides context for the remainder of MD&A, including a general description of the Company’s overall business, its business segments and a high-level summary of Company-specific and industry-wide factors impacting its operations.
	•		RESULTS OF OPERATIONS – This section provides an analysis of the Company’s results of operations for the three and six months ended June 30, 2007 and 2006. This section is organized using a layered approach, beginning with a discussion of consolidated results at a summary level, followed by more detailed discussions of business segment results and unallocated corporate items, including interest and income taxes.
	•		OUTLOOK – This section provides information regarding the Company’s current expectations, mainly with regard to the remainder of the current fiscal year, and is organized to provide information by business segment and on a consolidated basis.
	•		LIQUIDITY AND CAPITAL RESOURCES – This section provides an analysis of the Company’s financial condition, including cash flows for the three and six months ended June 30, 2007 and 2006 and any material updates to the Company’s aggregate contractual obligations as of June 30, 2007.
	•		NEW ACCOUNTING STANDARDS – This section provides information regarding any newly issued accounting standards which have not yet been adopted by the Company.

OVERVIEW

BUSINESS

UST Inc. is a holding company for its wholly-owned subsidiaries: U.S. Smokeless Tobacco Company and International Wine & Spirits Ltd. Through its largest subsidiary, U.S. Smokeless Tobacco Company, the Company is a leading manufacturer and marketer of moist smokeless tobacco products including brands such as Copenhagen, Skoal, Red Seal, Husky and Rooster. Through International Wine & Spirits Ltd., the Company produces and markets premium wines sold nationally, via its Ste. Michelle Wine Estates subsidiary, under labels such as Chateau Ste. Michelle, Columbia Crest, Conn Creek, Villa Mt. Eden, Red Diamond, Distant Bay, 14 Hands and Erath. The Company also produces and markets sparkling wine under

the Domaine Ste. Michelle label. In addition, the Company is the exclusive United States importer and distributor of the portfolio of wines produced by the Italian winemaker Antinori, which includes such labels as Tignanello, Solaia, Tormaresca, Montenisa and Haras de Pirque.

The Company conducts its business principally in the United States. The Company’s operations are divided primarily into two reportable segments: Smokeless Tobacco and Wine. The Company’s international smokeless tobacco operations, which are not significant, are reported as All Other Operations.

In the third quarter of 2006, the Company commenced implementation of a cost-reduction initiative called “Project Momentum,” with targeted savings of at least $100 million over its first three years. The Company believes that such an effort is prudent from a long-term growth perspective, as it is designed to provide resources for additional financial flexibility, whether to address potential competitive challenges in the smokeless tobacco category, make further investments behind its brands or possibly increase net earnings. Operating income results in both the second quarter and six-month periods of 2007 include the positive contribution realized from this initiative, and the Company is confident that it is on track to realize the targeted savings, as planned. In addition, the Company has recently finalized plans on various other initiatives under Project Momentum, primarily related to manufacturing operations and the procurement function, which are expected to generate at least $50 million in additional savings beyond the original target, resulting in a new savings target of at least $150 million over the original three-year period. The majority of the incremental $50 million in savings are expected to be realized in 2008 and 2009. See Consolidated Results — Restructuring Charges within the Results of Operations section below for further information.

SMOKELESS TOBACCO SEGMENT

Category Growth

The Company’s primary objective in the Smokeless Tobacco segment is to continue to grow the moist smokeless tobacco category by building awareness and social acceptability of smokeless tobacco products among adults, primarily smokers, with a secondary objective of being competitive in every segment of the moist smokeless tobacco category. Over the past several years, industry trends have shown that some adult consumers in this category have migrated from premium brands to brands in the price-value and sub-price-value segments. As such, a key to the Company’s future growth and profitability is attracting growing numbers of adult consumers, primarily smokers, to the moist smokeless tobacco category, as approximately every one percent of adult smokers who convert to moist smokeless tobacco represents a 7 percent to 8 percent increase in the category’s adult consumer base, and consumer research indicates that the majority of new adult consumers enter the category in the premium segment.

In addition to advertising initiatives focused on category growth, the Company has utilized its direct mail marketing program to promote the discreetness and convenience of smokeless tobacco relative to cigarettes to over four million adult smokers. The direct mail program, which the Company believes has been successful over the past two years, continues in 2007. Also crucial to the success of the Smokeless Tobacco segment’s category growth initiatives is product innovation, as evidenced by the contribution that new products have made to the Smokeless Tobacco segment’s results over the past several years. The Company believes that its category growth efforts have contributed to the moist smokeless tobacco category’s strong growth rates since their implementation.

Premium Brand Loyalty

While category growth remains the Company’s priority, it has significantly increased its focus on efforts to increase adult consumer loyalty for its premium moist smokeless tobacco products. In connection with these efforts, during 2006 the Company implemented a plan under which it incurred significant incremental spending to stabilize premium net unit volume by strengthening premium brand loyalty. The premium brand loyalty plan is designed to deliver value to adult consumers through promotional spending and other price-focused initiatives implemented on a state-by-state basis. Based on sequential trend improvements in net unit volume for premium products throughout 2006 (with year-over-year growth in the second half of 2006), and with continued year-over-year growth in 2007, the Company believes the premium brand loyalty efforts have proven successful. As a result of this success and as a means to accelerate profitable net unit volume growth, during 2007 the Company is increasing spending above 2006 levels on such initiatives, and is now expecting year-over-year premium net unit volume growth of approximately 1.5 percent in 2007, as compared to the original target of 1 percent, excluding the impact of an extra billing day in the fourth quarter.

WINE SEGMENT

The Company’s focus in the Wine segment is to become one of the premier fine wine companies in the world, to elevate Washington state wines to the quality and prestige of the top regions of the world, and to be known for superior products, innovation and customer focus. In order to achieve these goals, attention is directed towards traditional style wines in the super premium to luxury-priced categories. Recent achievements have been well aligned with these goals. According to ACNielsen, Ste. Michelle Wine Estates was the fastest growing top-10 winery in the U.S. during the first half of 2007, and in 2006 the Company’s wines comprised 6.2 percent of total domestic 750ml units as compared to 5.9 percent in 2005. The alliance with Antinori, to become its exclusive United States importer and distributor, and the purchase of the Erath label and winery, both of which occurred in 2006, have broadened the Wine segment’s position with respect to the two key wine regions represented by Antinori and Erath. The addition of the Italian wines positions the Wine segment as a leader in U.S. distribution of Tuscan wines, while the addition of Erath establishes the Company’s Wine segment as one of the largest producers of Oregon Pinot Noir. The Company continued to be the category leader for Riesling in 2006; comprising 30 percent of the market based on ACNielsen data. Overall, the Wine segment maintained its strong leadership position in Washington State.

The Company remains focused on the continued expansion of its sales force and category management staff to further broaden the distribution of its wines in the domestic market, especially in certain account categories such as restaurants, wholesale chains and mass merchandisers. Sustained growth in the Wine segment will also be dependent on third party acclaim and ongoing category growth.

Consistent with the Company’s focus on becoming one of the premier fine wine companies in the world, it has recently executed an agreement to purchase Stag’s Leap Wine Cellars and its signature Napa Valley, CA vineyards for approximately $185 million, subject to certain closing conditions. The purchase will be completed through one of the Company’s consolidated subsidiaries, with a 15 percent minority interest to be held by Antinori. This acquisition, which is expected to close in September 2007, will provide additional prestige to the Wine segment’s acclaimed portfolio and is expected to contribute to the segment’s operating profit growth over the long-term, with a return that is expected to be more than double the Company’s cost of capital.

RESULTS OF OPERATIONS

(In thousands, except per share amounts or where otherwise noted)

CONSOLIDATED RESULTS

Second Quarter of 2007 compared with the Second Quarter of 2006

		Three Months Ended								Increase/
		June 30,								(Decrease)
		2007				2006				Amount				%
Net sales		$	491,254			$	472,900			$	18,354				3.9
Net earnings			139,971				134,655				5,316				3.9
Basic earnings per share			0.88				0.84				0.04				4.8
Diluted earnings per share			0.87				0.83				0.04				4.8
Restructuring charges			3,908				—				3,908				—

Net Earnings

Consolidated net earnings increased in the second quarter of 2007, as compared to the second quarter of 2006, as a result of increased operating income, the impact of lower net interest expense and a lower effective tax rate. The Company reported operating income of $227.6 million in the second quarter of 2007, representing 46.3 percent of consolidated net sales, compared to operating income of $225.6 million, or 47.7 percent of consolidated net sales, in the second quarter of 2006. The increase in operating income was primarily due to the following:

	•		Increased net sales in the Wine segment; and
	•		Lower selling, advertising and administrative (“SA&A”) expenses in the Smokeless Tobacco segment, which can be attributed to Project Momentum.

These factors were partially offset by:

	•		The impact of $3.9 million in restructuring charges incurred in connection with Project Momentum (see Restructuring Charges section below), which adversely impacted the 2007 operating margin percentage by approximately 0.8 percentage points; and
	•		Increased unallocated corporate expenses, primarily due to the amortization of imputed rent related to a below-market short-term lease the Company executed in connection with the sale of its corporate headquarters building and costs associated with a change in executive management, the aggregate amount of which adversely impacted the 2007 operating margin by 1 percentage point.

Basic and diluted earnings per share were $0.88 and $0.87, respectively, for the second quarter of 2007, representing a 4.8 percent increase from each of the corresponding comparative measures in 2006. Average basic shares outstanding were lower in the second quarter of 2007 than in the comparable prior year period, primarily as a result of share repurchases, partially offset by the exercise of stock options. Average diluted shares outstanding in the second quarter of 2007 were lower than those in the second quarter of 2006 due to the impact of share repurchases and a lower level of dilutive outstanding options, partially offset by the impact of a comparatively higher average stock price in 2007, which has the effect of increasing diluted shares outstanding.

		Three Months Ended								Increase/
		June 30,								(Decrease)
		2007				2006				Amount				%
Net Sales by Segment:
Smokeless Tobacco		$	399,018			$	399,110			$	(92	)			—
Wine			79,519				62,000				17,519				28.3
All Other Operations			12,717				11,790				927				7.9
Consolidated Net Sales		$	491,254			$	472,900			$	18,354				3.9

The increase in consolidated net sales for the second quarter of 2007, as compared to the second quarter of 2006, was primarily due to the following:

	•		Improved case volume for premium wine;
	•		An increase in both premium and overall net unit volume for moist smokeless tobacco products; and,
	•		Improved international results.

These factors were partially offset by:

•

Lower net revenue realization per unit in the Smokeless Tobacco segment, reflecting the impact of the premium brand loyalty plan.

Segment Net Sales as a Percentage of Consolidated Net Sales

Q2 2007		Q2 2006

Gross Margin

		Three Months Ended								Increase/
		June 30,								(Decrease)
		2007				2006				Amount				%
Gross Margin by Segment:
Smokeless Tobacco		$	329,487			$	330,384			$	(897	)			(0.3	)
Wine			26,850				22,567				4,283				19.0
All Other Operations			8,068				7,535				533				7.1
Consolidated Gross Margin		$	364,405			$	360,486			$	3,919				1.1

The consolidated gross margin increase in the second quarter of 2007, as compared to the second quarter of 2006, was primarily due to higher net sales, partially offset by higher cost of products sold, in the Wine segment.

		June 30,								Increase/
		2007				2006				(Decrease)
Gross Margin as a % of Net Sales by Segment:
Smokeless Tobacco			82.6	%			82.8	%			(0.2	)
Wine			33.8	%			36.4	%			(2.6	)
All Other Operations			63.4	%			63.9	%			(0.5	)
Consolidated			74.2	%			76.2	%			(2.0	)

The decline in the consolidated gross margin, as a percentage of net sales, was mainly due to the following:

	•		Higher case volume for wine, which sells at lower margins than moist smokeless tobacco products;
	•		Increased unit costs in the Wine segment; and,
	•		Lower net revenue realization per unit in the Smokeless Tobacco segment.

Restructuring Charges

The Company recognized $3.9 million in restructuring charges in the second quarter of 2007 in connection with the continued implementation of Project Momentum, the Company’s previously announced cost-reduction initiative. This initiative is designed to create additional financial resources for growth via operational productivity and efficiency enhancements. The Company believes that such an effort is prudent as it is designed to provide additional flexibility in the increasingly competitive smokeless tobacco category. Refer to the Restructuring Charges section within the “First Six Months of 2007 compared with the First Six Months of 2006” discussion below for additional information, including cumulative charges incurred to date and the total amount of charges expected to be incurred in connection with Project Momentum for each major type of cost associated with the initiative.

First Six Months of 2007 compared with the First Six Months of 2006

		Six Months Ended								Increase/
		June 30,								(Decrease)
		2007				2006				Amount				%
Net sales		$	938,272			$	906,541			$	31,731				3.5
Net earnings			247,484				250,568				(3,084	)			(1.2	)
Basic earnings per share			1.55				1.55				—				—
Diluted earnings per share			1.53				1.54				(0.01	)			(0.6	)
Gain on sale of corp. HQ bldg			105,143				—				105,143				—
Antitrust litigation			122,100				1,350				120,750				—
Restructuring charges			7,428				—				7,428				—

Net Earnings

Consolidated net earnings decreased in the first six months of 2007, as compared to the first six months of 2006, as a result of lower operating income, partially offset by the impact of a lower effective tax rate and lower net interest expense. The Company reported operating income of $405.4 million in the first half of 2007, representing 43.2 percent of consolidated net sales, compared to operating income of $422 million, or 46.5 percent of consolidated net sales, in the first half of 2006. The decrease in operating income was primarily due to the following:

	•		An antitrust litigation charge of $122.1 million representing the estimated costs associated with the resolution of indirect purchaser class actions in the States of Wisconsin and California, which adversely impacted the operating margin percentage by approximately 13 percentage points;
	•		The impact of $7.4 million in restructuring charges incurred in connection with Project Momentum (see Restructuring Charges section below), which adversely impacted the operating margin percentage by approximately 0.8 percentage points; and
	•		Increased unallocated corporate expenses, primarily due to amortization charges for the below-market short-term lease on its current corporate headquarters building and costs associated with a change in executive management, the aggregate amount of which adversely impacted the operating margin by 1 percentage point.

These factors were partially offset by:

	•		The impact of a $105 million pre-tax gain recognized in connection with the sale of the Company’s corporate headquarters building, which favorably impacted the operating margin percentage by 11.2 percentage points;
	•		Increased net sales in both the Wine and Smokeless Tobacco segments; and,
	•		Lower SA&A expenses in the Smokeless Tobacco segment, which can be traced to the impact of Project Momentum.

Basic earnings per share of $1.55 for the first six months of 2007 was level with basic earnings per share reported for the first six months of 2006, while diluted earnings per share of $1.53 for the first half of 2007 reflected a decrease of 0.6 percent from the corresponding comparative measure in 2006. Average basic shares outstanding were lower in the first six months of 2007 than in the comparable prior year period,

primarily as a result of share repurchases, partially offset by the exercise of stock options. Average diluted shares outstanding in the first six months of 2007 were lower than those in the first six months of 2006 due to the impact of share repurchases and a lower level of dilutive outstanding options, partially offset by the impact of a comparatively higher average stock price in 2007, which effectively increases diluted shares outstanding.

Net Sales

		Six Months Ended								Increase/
		June 30,								(Decrease)
		2007				2006				Amount				%
Net Sales by Segment:
Smokeless Tobacco		$	766,451			$	765,388			$	1,063				0.1
Wine			148,295				118,309				29,986				25.3
All Other Operations			23,526				22,844				682				3.0
Consolidated Net Sales		$	938,272			$	906,541			$	31,731				3.5

The increase in consolidated net sales for the first half of 2007, as compared to the first half of 2006, was primarily due to the following:

	•		Improved case volume for premium wine;
	•		Net sales growth in the Smokeless Tobacco segment, reflecting an increase in both premium and overall net unit volume for moist smokeless tobacco products ; and,
	•		Improved international results.

These factors were partially offset by:

•

Lower net revenue realization per unit in the Smokeless Tobacco segment.

Segment Net Sales as a Percentage of Consolidated Net Sales

Six Months Ended June 30, 2007		Six Months Ended June 30, 2006

Gross Margin

		Six Months Ended								Increase/
		June 30,								(Decrease)
		2007				2006				Amount				%
Gross Margin by Segment:
Smokeless Tobacco		$	629,939			$	632,019			$	(2,080	)			(0.3	)
Wine			50,949				43,261				7,688				17.8
All Other Operations			14,882				14,637				245				1.7
Consolidated Gross Margin		$	695,770			$	689,917			$	5,853				0.8

The consolidated gross margin increase in the first six months of 2007, as compared to the first six months of 2006, was primarily due to higher net sales in the Wine and Smokeless Tobacco segments, partially offset by higher cost of products sold in both of these segments.

		Six Months Ended
		June 30,								Increase/
		2007				2006				(Decrease)
Gross Margin as a % of Net Sales by Segment:
Smokeless Tobacco			82.2	%			82.6	%			(0.4	)
Wine			34.4	%			36.6	%			(2.2	)
All Other Operations			63.3	%			64.1	%			(0.8	)
Consolidated			74.2	%			76.1	%			(1.9	)

The decline in the consolidated gross margin, as a percentage of net sales, was mainly due to the following:

	•		Higher case volume for wine, which sells at lower margins than moist smokeless tobacco products;
	•		Lower net revenue realization per unit in the Smokeless Tobacco segment; and,
	•		Increased costs of products sold in the Smokeless Tobacco and Wine segments.

Restructuring Charges

The Company recognized $7.4 million in restructuring charges in the first six months of 2007 related to actions undertaken in connection with Project Momentum. Under this initiative, the Company has now targeted at least $150 million in savings to be realized within the three years following its implementation. The following table provides a summary of restructuring charges incurred during the second quarter and first six months of 2007, the cumulative charges incurred to date and the total amount of charges expected to be incurred in connection with this initiative for each major cost, by category:

		Restructuring
		Charges Incurred				Restructuring Charges				Cumulative
		for the Three				Incurred for the Six				Charges Incurred				Total Charges
		Months Ended				Months Ended				as of				Expected to
		June 30, 2007				June 30, 2007				June 30, 2007				be Incurred (1)
One-time termination benefits		$	596			$	644			$	16,269			$	19,700 - $21,200
Contract termination costs			4				21				411				400 - 500
Other restructuring costs			3,308				6,763				12,745				13,400 - 13,800
Total		$	3,908			$	7,428			$	29,425			$	33,500 - $35,500

One-time termination benefits relate to severance-related costs and outplacement services for employees terminated in connection with Project Momentum, as well as enhanced retirement benefits for qualified individuals. Contract termination costs relate to charges for the termination of operating leases incurred in conjunction with the consolidation and relocation of facilities. Other restructuring costs are mainly comprised of other costs directly related to the implementation of Project Momentum, primarily professional fees, along with asset impairment charges. Primarily all of the restructuring charges expected to be incurred will result in cash expenditures, although approximately $4 million of such charges relate to pension enhancements offered to applicable employees, all of which will be paid directly from the respective pension plan’s assets. As of June 30, 2007, the liability balance associated with restructuring charges amounted to $1.7 million. Refer to Item 1, “Financial Statements — Notes to Condensed Consolidated Financial Statements — Note 13, Restructuring,” for further information regarding accrued restructuring charges.

SMOKELESS TOBACCO SEGMENT

Second Quarter of 2007 compared with the Second Quarter of 2006

		Three Months Ended								Increase/
		June 30,								(Decrease)
		2007				2006				Amount				%
Net sales		$	399,018			$	399,110			$	(92	)			—
Restructuring charges			3,253				—				3,253				—
Operating profit			223,758				219,452				4,306				2.0

Net Sales

Smokeless Tobacco segment net sales in the second quarter of 2007 were flat as compared to the second quarter of 2006, as the favorable impact of an increase in both premium and overall net unit volume for moist smokeless tobacco products was offset by the following impact of the Company’s price-focused initiatives:

	•		An unfavorable shift in premium product mix, with lower net unit volume for straight stock premium products more than offset by an increase in net unit volume for value pack and promotional premium products;
	•		An unfavorable shift in price-value product mix, with the increase in price-value net unit volume largely due to sales of value packs, which were introduced in the first quarter of 2007; and,
	•		Increased sales incentives, primarily retail buydowns.

The Company believes that its price-focused initiatives, which relate primarily to its premium brand loyalty initiative, along with the impact of its continued category growth efforts aimed at converting adult smokers, continue to be successful in driving net unit volume growth for its moist smokeless tobacco products, particularly premium products.

Percentage of Smokeless Tobacco Segment Net Sales by Product Category

Q2 2007		Q2 2006

Net sales results for both premium and price-value products include net can sales for standard products, which consist of straight stock, pre-pack promotional products, and beginning in the first quarter of 2007, value pack products. Prior to 2007, only premium standard products included value packs. Straight stock refers to single cans sold at wholesale list prices. Value packs, which were introduced to more effectively compete for and retain value-conscious adult consumers, are two-can packages sold year-round reflecting lower per-can wholesale list prices than wholesale list prices for straight stock single-can products. Pre-pack promotions refer to those products that are bundled and packaged in connection with a specific promotional pricing initiative for a limited period of time.

MSTP Net Unit Volume

		Three Months Ended June 30,								Increase/(Decrease)
		2007				2006				Cans				%
Net Unit Volume (thousands of cans):
Premium			144,065				141,978				2,087				1.5
Price Value			25,792				23,755				2,037				8.6
Total			169,857				165,733				4,124				2.5

Percentage of Total MSTP Net Unit Volume by Category Segment

Q2 2007		Q2 2006

Overall net unit volume for moist smokeless tobacco products increased 2.5 percent in the second quarter of 2007, as compared to the similar 2006 period, reflecting the sixth consecutive quarter of overall year-over-year growth and the third consecutive quarter of growth in excess of 2 percent. The increases for premium and price-value products each accounted for roughly half of the overall volume increase, on an absolute can basis. The premium net unit volume growth of 1.5 percent in the second quarter of 2007 represents the fourth consecutive quarter of year-over-year premium net unit volume growth and was ahead of the Company’s expectations.

The Company continues to be encouraged by the recent trend improvement in net unit volume for premium products, specifically in the year-over-year comparisons seen in the past several quarters. The Company believes this improvement in premium net unit volume performance is attributable to the following factors:

	•		Continued implementation of the Company’s premium brand loyalty plan, which has narrowed the price gaps between premium and price-value products on a state-by-state basis, in varying degrees; and,
	•		Continued spending on category growth initiatives.

Net unit volume for price-value products includes Red Seal, the Company’s price-value product, and Husky, the Company’s sub-price-value product. Net unit volume for Red Seal increased moderately in the second quarter of 2007, as compared to the second quarter of 2006. The Company has implemented price-focused initiatives related to Red Seal, which have returned the brand to net unit volume growth during 2007 after a disappointing performance in the latter half of 2006. Net unit volume for Husky increased significantly in the second quarter of 2007, as compared to the corresponding prior year period, which benefited from the 2007 introduction of value packs.

The Company remains committed to the development of new products and packaging that cover both core product launches and other possible innovations. During the first quarter of 2007, the Company launched Skoal Citrus Blend in two forms, Long Cut and Pouches. In the second quarter of 2007 the Company announced that it will be introducing an all-new-line of premium moist smokeless tobacco products known as Cope, which will be available in three long cut varieties. Cope is designed to make the Company’s core brand, Copenhagen, more approachable for adult smokers and will be available at retail in mid-September 2007. Net can sales for the second quarter and first six months of 2007 included approximately 23.4 million cans and 44.4 million cans, respectively, of new products that were launched nationally within the last three years, representing 13.8 percent and 13.6 percent, respectively, of the Company’s total moist smokeless tobacco net unit volume for the respective periods. These new products included:

	•		Three varieties of Skoal Long Cut*
	•		Three varieties of Skoal Pouches*
	•		Skoal Bandits (new and improved)**
	•		Copenhagen Long Cut Straight**
	•		Two varieties of Husky Fine Cut
	•		Various varieties of Husky Long Cut

In connection with the Company’s objective to grow the moist smokeless tobacco category by building awareness and improving the social acceptability of smokeless tobacco products among adult consumers, primarily smokers, the Company’s premium portion pack products have demonstrated continued growth. Net unit volume for these portion pack products, which include Copenhagen and Skoal Pouches, as well as new and improved Skoal Bandits, increased significantly in the second quarter of 2007, as compared to the corresponding prior year period, and represented 9.4 percent of the Company’s premium net unit volume.

The Company began limited marketing of a new product, Skoal Dry, in two lead markets in July 2006. In keeping with the objective to improve smokeless tobacco’s social acceptability, this product, also aimed at converting adult smokers, is designed to be spit-free. The Company continues to evaluate the results of this initiative.

Cost of Products Sold

Costs of products sold for the second quarter of 2007 increased as compared to the corresponding period of 2006, as the favorable impact of reduced manufacturing costs resulting from Project Momentum initiatives were more than offset by the overall increased net unit volume of moist smokeless tobacco products, increased material costs and a charge related to the write-off of certain packaging material.

Gross Margin

		Three Months Ended
		June 30,								Increase/(Decrease)
		2007				2006				Amount				%
Gross Margin		$	329,487			$	330,384			$	(897	)			(0.3	)
Gross Margin as % of Net Sales			82.6	%			82.8	%

Gross margin decreased slightly in the second quarter of 2007, compared to the second quarter of 2006, primarily as a result of the aforementioned increased material costs and packaging material inventory write-off. The gross margin, as a percentage of net sales, declined by 0.2 percentage points in the second quarter of 2007, as compared to the corresponding period of 2006, as a result of these factors and a shift in product mix, which reflected higher net unit volume for both premium and price-value value pack products and increased premium promotional net unit volume along with lower net unit volume for straight stock premium products.

SA&A Expenses

SA&A expenses decreased 7.6 percent in the second quarter of 2007 to $102.5 million, compared to $110.9 million in the second quarter of 2006, reflecting overall improvements in cost management as a result of Project Momentum and other favorable spending, specifically:

	•		Lower salaries and related costs associated with certain positions eliminated in the restructuring;
	•		Lower costs associated with fringe benefits;
	•		Lower consulting fees;
	•		Decreased print advertising costs;
	•		Lower costs associated with retail shelving systems used to promote the moist smokeless tobacco category’s products; and,
	•		A decrease in other administrative expenses.

These decreases were partially offset by:

	•		Higher direct marketing spending, primarily related to the Company’s premium brand-building and category growth initiatives;
	•		Higher legal-related costs; and,
	•		Increased one-on-one marketing costs.

The Company’s SA&A expenses include legal expenses, which incorporate, among other things, costs of administering and litigating product liability claims. For the quarters ended June 30, 2007 and 2006, outside legal fees and other internal and external costs incurred in connection with administering and litigating

product liability claims were $3.7 million and $4.3 million, respectively. These costs reflect a number of factors, including the number of claims, and the legal and regulatory environments affecting the Company’s products. The Company expects these factors to be the primary influence on its future costs of administering and litigating product liability claims. The Company does not expect these costs to increase significantly in the future; however, it is possible that adverse changes in the aforementioned factors could have a material adverse effect on such costs, as well as on results of operations and cash flows in the periods such costs are incurred.

Restructuring Charges

Smokeless Tobacco segment results for the three months ended, June 30, 2007, reflect $3.2 million of the restructuring charges discussed in the “Consolidated Results” section above.

First Six Months of 2007 compared with the First Six Months of 2006

		Six Months Ended								Increase/
		June 30,								(Decrease)
		2007				2006				Amount				%
Net sales		$	766,451			$	765,388			$	1,063				0.1
Restructuring charges			6,486				—				6,486				—
Antitrust litigation			122,100				1,350				120,750				—
Operating profit			294,748				411,142				(116,394	)			(28.3	)

Net Sales

The increase in Smokeless Tobacco segment net sales in the first six months of 2007, as compared to the first six months of 2006, reflects the favorable impact of an increase in both premium and overall net unit volume for moist smokeless tobacco products, partially offset by the following impact of the Company’s price-focused initiatives:

	•		An unfavorable shift in premium product mix, with lower net unit volume for straight stock premium products more than offset by an increase in net unit volume for value pack and promotional premium products;
	•		An unfavorable shift in price-value product mix, with the increase in price-value net unit volume largely due to volume for price-value value pack products; and,
	•		Increased sales incentives, primarily retail buydowns.

As noted in the discussion of quarterly results above, the Company believes that its price-focused initiatives continue to be successful in driving net unit volume growth for its moist smokeless tobacco products, particularly premium products. The Company also believes that the success is further illustrated by the achievement of net sales growth despite escalating gasoline prices during the first half of 2007 and the comparative impact of the initial implementation of the premium loyalty initiative in the first half of 2006. The Company believes that can sales of its smokeless tobacco products, primarily premium products, can be affected by fluctuations in gasoline prices. The impact of such fluctuations may be exacerbated due to the fact that a significant portion of the Company’s net unit volume is sold at outlets that also sell gasoline.

Percentage of Smokeless Tobacco Segment Net Sales by Product Category

Six Months Ended June 30, 2007		Six Months Ended June 30, 2006

MSTP Net Unit Volume

		Six Months Ended June,								Increase/(Decrease)
		2007				2006				Cans				%
Net Unit Volume (thousands of cans):
Premium			275,909				271,962				3,947				1.5
Price Value			49,141				45,460				3,681				8.1
Total			325,050				317,422				7,628				2.4