British American Tobacco has offered to pay $47 billion to acquire the 58% of Reynolds American Inc. that it doesn’t already own, in a move that would make the combined company the world’s largest publicly traded tobacco company. BAT has held a 42% stake in Reynolds since 2004, and this cash and stock offer would enable BAT to have full control of Reynolds, putting brands such as Lucky Strike and Camel under one roof. This is the latest move in a fast-consolidating tobacco market, where a small number of companies are fighting to gain market share amid a dwindling tobacco market, while at the same time attempting to develop alternatives to traditional cigarettes.

The sales volume of tobacco cigarettes has been fast declining globally, as a result of growing awareness among consumers, together with tobacco tax hikes and bans on smoking in public places. This has given rise to the alternatives, such as iQOS, a battery-powered device, which heats tobacco instead of burning it, developed by Philip Morris International (NYSE:PM). This product has had phenomenal success in Japan, the only country where a national roll-out has occurred. The market share has steadily climbed since it was first introduced in the country. During FY 2015, the iQOS launch was expanded in Japan to reach 60% of the adult smoking population, and the national roll-out was completed in the beginning of the second quarter. For the third quarter, the HeatSticks market share increased to 3.5%, an increase of 1.3 points, compared to the second quarter. Furthermore, the share in the last week of September reached an estimated 4.3%, and an even higher 7.3% in Tokyo, despite limited expansion due to supply constraints. This has also cut into the market share of rivals such as Japan Tobacco and BAT.

The proposed acquisition would give BAT a bigger piece of the US market, and the ability to take advantage of Reynolds’ leadership in electronic cigarettes. The latter has been spending heavily on R&D since the 1980s, and this would allow BAT to catch up, according to Bonnie Herzog, tobacco analyst at Wells Fargo. BAT currently has a technology sharing agreement with Reynolds, which allows the two companies to collaborate on R&D, and to license vapor products. But acquiring Reynolds would ensure BAT has a pipeline of products, policy advisers, and leading scientists, which it would not have otherwise, according to David Sweanor, a tobacco-control expert and professor of law at the University of Ottawa.

As per BAT estimates, the proposed merger would generate “relatively modest” cost synergies of $400 million, and would overtake Philip Morris, as the largest publicly traded tobacco company. Currently, the biggest is China National Tobacco Corp., operated by China’s State Tobacco Monopoly Administration. BAT has been active in the M&A in the industry prior to this offer as well. The company conducted a buyout of its Brazilian Souza Cruz SA unit last year for $2.4 billion, and has also partially funded Reynolds’ takeover of Lorillard Inc.

This acquisition may also result in a wave of consolidation in the tobacco industry. One possibility that may emerge in the aftermath of this is the re-merger of Philip Morris with Altria (NYSE:MO), eight years after the companies split up, as the acquisition of Reynolds by BAT would take away Philip Morris’ top ranking. Another possibility is a combination of Japan Tobacco with Imperial Brands. Japan Tobacco has in the past claimed it wants to be the number one tobacco company in the world. It has undertaken a number of acquisitions in the past, including the purchase of the international rights to Reynolds’ Natural American Spirit division, in order to cope with a stagnating home market. While most speculation revolved around publicly traded companies, some analysts such as Jeffries’ Bennett, said that China’s state monopoly may also enter the fray.

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