Any future substantial decline in the demand for tobacco products could have an adverse effect on our revenue, profit and financial condition.condition and that of the Enlarged Group.

Increased regulation of the tobacco industry may have an adverse effect on the demand for tobacco products

The advertising, sale and consumption of tobacco products have been subject to regulatory influence from governments, health officials and anti-smoking groups, principally due to claimstheir conclusion that cigarette smoking and tobacco products are harmful to health. This has resulted in substantial restrictions on the manufacture, development, sale, distribution, marketing, advertising, product design and consumption of tobacco products, introduced by regulation and voluntary agreements. In addition, anti-smoking groups, the E.U.European Union and the World Health Organization,Organisation are seeking to diminish the social acceptability of smoking.

Any future increase

New tobacco legislation was brought into effect in Spain and Scotland in 2006, in France in February 2007, in Wales and Northern Ireland in April 2007, and in England in July 2007, which restricts smoking in public places. These changes in legislation may have an adverse effect on demand for our and the Enlarged Group’s products.

Future increases in the regulation of the tobacco industry could result in a substantial decline in the demand for tobacco products or in an increase in our costs and the costs of the Enlarged Group in complying with these regulatory requirements and could have an adverse effect on our revenue, profit and financial condition.condition and that of the Enlarged Group.

In addition, we and the Enlarged Group could be adversely affected by the proposal that the United States Food and Drug Administration (FDA) be granted regulatory supervision over the U.S. tobacco industry. If the FDA is granted tobacco regulatory authority, it is not clear what form that regulation might take and what effect these regulatory changes might have on the overall market or market shares in the U.S.

For additional information about the regulatory influences affecting cigarette consumption, please see Item 4B: Business Overview–Overview – Regulatory Issues.

Increased excise duty on tobacco products may have an adverse effect on the demand for tobacco products

Tobacco products are subject to excise duty which, in many of the markets in which we operate and the Enlarged Group will operate, represents a substantial percentage of the retail price and has been steadily increasing in recent years. Increasing levels of excise duty have among other things,negatively impacted overall consumption and encouraged consumers in affected markets to switch from premium price cigarettes to lower price cigarettes

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Spain and the United States (for cigars). As a result, we and the Enlarged Group may be subject to investigation for alleged infringement ofenhanced regulatory scrutiny as to competition law in these markets,countries, which could result in adverse regulatory action by the relevant authorities, including the potential for monetary fines, and negative publicity. There can be no assurances that any such investigationsscrutiny will not result in investigations or actions being brought against us or the Enlarged Group or that any such investigations or publicity will not have an adverse effect on our revenue, profit or financial condition.condition or that of the Enlarged Group.

As previously reported, information was supplied by the groupImperial Tobacco Group and a number of other companies to the U.K. Office of Fair Trading (the OFT)“OFT”) in October 2003 and April 2005 in relation to an enquiryOFT investigation into the operationsoperation of the U.K. tobacco supply chain.  chain, but to date no substantive response to any of the information submitted has been received from the OFT. The OFT’s investigation is continuing. In the event that the OFT ultimately decides that a company has infringed U.K. competition law, it may impose a fine. For additional information about this enquiry please see Item 4B: Business Overview – Legal Environment.

It is not possible for us to identify from publicly available information whether or not Altadis is subject to any pending anti-trust actions.

We and the Enlarged Group could incur substantial damages and costs in connection with litigation

Tobacco manufacturers, including us and Altadis, have been sued by parties seeking damages for alleged smoking-related healthsmoking and health-related effects. Although to date no final adverse judgment has been entered and, to our knowledge, no action has been settled in favorfavour of a plaintiffclaimant in any such action in the United Kingdom, Germany, France or Germany (ourSpain (the Enlarged Group’s most important markets)European countries of operation), we cannot assure youthere can be no assurance that legal aid or other funding will continue to be denied to plaintiffsclaimants in smoking-related healthsmoking and health-related litigation in any jurisdiction in the future, that favorablefavourable decisions will be achieved

in the proceedings pending against us or the Enlarged Group, that additional proceedings by private, corporate or public sector plaintiffsclaimants will not be commenced against us or the Enlarged Group or that we or the Enlarged Group will not incur damages which may be material.

Although it is not possible accurately to predict the outcome of any pending smoking-relatedsmoking and health-related litigation, we believe that we have meritorious defensesdefences to the pending actions against us and that they will not have a material adverse effect upon our revenue, profit or financial condition. We have not been able to conduct due diligence as to whether Altadis has meritorious defences to actions pending against it. Regardless of the outcome of any litigation, we and the Enlarged Group will incur costs defending claims which we maywill not be able to recover fully, irrespective of whether we are successful in defending such claims.  Historically the costs of defending such claims have not been material.

The impact of litigation on our business is discussed in further detail in Item 4B: Business Overview – Legal Environment.

Historically, Imperialwe did not sell tobacco products in the United States, the jurisdiction with the greatest prevalence of smoking-related healthsmoking and health-related litigation. However, Reemtsma had sold relatively small quantities of cigarettes in the United States between 1985 and 1999 and we continue to have limited sales in the U.S. duty-freeduty free market. In addition, following the completion of our acquisition of Commonwealth Brands, we have acquired a U.S. company which manufactures and sells cigarettes in the United States. According to Altadis’ 2006 consolidated management report, the Altadis Group produces and sells cigars in the United States, but no longer produces cigarettes for sale in the United States. We propose to start selling tobacco products, including cigarettes, through Commonwealth Brands directly into the U.S. domestic market during 2007 and consequently we cannot assure youin fiscal 2008 in conjunction with Commonwealth Brands’ existing operations. Consequently, there can be no assurance that we will not be subject to litigation in the United States in the future. We have submitted anIn particular, claims including class actions could be made against us in the United States in respect of, among other things, claims for personal injury or death, costs of providing health-care and costs of court-supervised health monitoring programmes. The damages sought in any such claim could be significant. In November 2007 we received confirmation that our application to become a Subsequent Participating Manufacturer (“SPM”) to the 1998 Master Settlement Agreement that all major U.S. marketindustry participants have entered into with, among others, the attorneys generalAttorneys General of 46 U.S. states, to settle healthcare reimbursement claims and other issues, buthad been approved. Commonwealth Brands became an SPM in 1998. However, there can be no assurances that any future litigation against us in the U.S., if successful, would not have an adverse effect upon our revenue, profit or financial condition.condition or that of the Enlarged Group.

In addition, even if Altadis or the Imperial Tobacco Group are not parties to litigation, any adverse judgment against a tobacco manufacturer or in relation to the tobacco market could have an impact on market

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conditions which could adversely affect our revenue, profit or financial condition or that of the Enlarged Group.

Recent litigation in respect of the parallel importing of cigars from Cuba could have an adverse effect on sales of Cuban cigars by Corporación Habanos S.A. (of which Altadis owns 50%) in the European Union and elsewhere by liberalising the market for distribution of Cuban cigars within the E.U. This litigation concerned the purchase of cigars in Cuba for resale in the U.K.; the court decided that, as a result of the sales practices of Corporación Habanos S.A. in Cuba at the relevant time, the resale of Habanos cigars in the U.K. by a U.K. importer did not, at that time, infringe the trade marks of Habanos.

The impact of litigation on our business is discussed in further detail in Item 4B: Business Overview – Legal Environment.

We operate in highly competitive markets

Our principal competitors are Philip Morris InternationalAltria Group, Inc. (or PMI), British American Tobacco plc (or BAT),and Japan Tobacco International Inc. (or JTI), Gallaher Group Plc (or Gallaher), and Altadis S.A. (or Altadis). These companies, some of which have greater financial resources than we have, remain strong competitors in the international markets in which we operate. Any increaseSignificant increases in competitive activity of these companies and other local manufacturers could lead to further competition and pricing pressure on our brands and reduce our profit margins. Our ability to compete with these companies may be limited by the regulatory environment in which we operate, including advertising restrictions, and this may adversely impact our efforts to strengthen our brand portfolio. Actions from our competitors may also have an unfavorableunfavourable impact on our ability to meet our strategy of growing the groupEnlarged Group organically and through acquisitions.

We may be unable to identify further acquisition opportunities

Historically, we have engaged in acquisitions which have been complementary to the organic growth of the group.Imperial Tobacco Group. The continuation of this expansion strategy is dependent on, among other things, identifying suitable acquisition or investment opportunities and successfully consummatingcompleting those transactions. AntitrustWhere we have identified acquisition opportunities, we have historically faced competition for these acquisitions.

Following completion of the acquisition of Altadis, anti-trust or similar laws may make it difficult for us to make additional acquisitions if regulators in countries where we and potential acquisition targets operate believe that a proposed transaction will have an adverse effect on competition in the relevant market.acquisitions. Even if we are able to identify candidates for acquisition, it may be difficult to complete transactions.  We have historically faced competition for acquisitions. In the future, this could limit our ability to grow by this method or could raise the price of acquisitions and make them less attractive to us. In addition, if we are unable to secure necessary financing, we may not be able to grow our business through acquisitions.

Our failure to manage growth could adversely affect our business and the business of the Enlarged Group

Our strategy includes expansion of our business internationally both through organic growth and by tobacco and tobacco-related acquisitions. Among other things, acquisitions require the attention of management and the diversion of other resources away from organic growth. Our ability to effectively integrate and manage acquired businesses effectively and handle any future growth will depend upon a number of factors and failure to manage growth effectively could adversely affect our revenue, profit and financial condition.condition and that of the Enlarged Group.

Typically, when we acquire a business we acquire all of its liabilities as well as its assets. Although we try to investigate each business thoroughly prior to acquisition and to obtain appropriate representations and warranties as to its assets and liabilities, there can be no assurance that we or the Enlarged Group will be able to identify all actual or potential liabilities of a company prior to its acquisition. Please see also the risk factor below regarding the limited extent of our due diligence access in relation to the proposed acquisition of Altadis.

We and the Enlarged Group may be adversely affected by our activities in developing markets

Our expansion into both developing and emerging markets may present more challenging operating environments where margins in general may be lower and in which commercial practices may be of a lower standard than those in which we have historically operated.

In addition, some

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The proposed acquisition of Altadis will increase our sales in developing markets, including markets such as Russia, Morocco and the Middle East. According to Altadis’ 2006 consolidated management report, certain of these developing markets, in particular Morocco, are currently important to the operations of the Altadis Group. Following the proposed acquisition, the results and prospects for the Enlarged Group’s operations in these countries will be dependent, in part, on the political stability, economic activity and policies of those countries.

We and the Enlarged Group do business in countries subject to international sanctions

Some of the countries in which we operate,do business or with whom we have commercial dealings through third parties, such as Iran, Syria and Syria, are subject to certain international sanctions.Cuba, have been identified by the U.S. State Department as state sponsors of terrorism. Our current operationsactivities in these jurisdictions are currently limited principally to selling tobacco products and purchasing tobacco leaf and are not material to our revenue, profit and financial condition. However, following completion of the proposed acquisition of Altadis, our business in Cuba, from which we have previously only sourced tobacco leaf, will become more significant as a result of Altadis’ 50% ownership interest in Corporacion Habanos S.A., a company which distributes cigars manufactured in Cuba.

We seek to comply fully with international sanctions to the extent they are applicable to us.us and will continue to do so following completion of the proposed acquisition of Altadis. However, in doing so we may be restricted in the sources of products that we supply to these jurisdictions, in our sources of funding for our operations in these jurisdictions or by the nationality of the personnel that we involve in these activities. FutureIn particular, Altadis’ cigar operations in Cuba could be materially limited by the operation of the United States Cuban Assets Control Regulations and the United States Cuban Liberty and Democratic Solidarity (Libertad) Act 1996 (commonly known as Helms-Burton). New future sanctions or changes in internationalexisting sanctions maycould further restrict or entirely prevent us and the Enlarged Group from doing business in or having commercial dealings with certain jurisdictions, entirely.including Cuba, which could have an adverse effect on our revenue, profit and financial condition and that of the Enlarged Group.

Further,

Furthermore, we may suffer from adverse public reaction or reputational harm as a result of doing business in or having commercial dealings through third parties with countries that have been identified as state sponsors of terrorism by the U.S. State Department, including Iran, Syria and Cuba, or that are subject to international sanctions, notwithstanding that theseour activities comply with applicable international sanctions do not apply to us as a U.K-based group and regardless of the materiality of our operations in such countries to our operations or financial condition. Any such reaction could have an adverse effect on our revenue, profit and financial condition and that of the Enlarged Group or on the market price for our ordinary shares and ADSs.

We and the Enlarged Group may be adversely affected by changes in taxation legislation

Our adjusted tax rate of around 25% is based on current legislation in the countries in which we operate. Taxation legislation may be subject to future changes which could have an adverse effect on our profit and financial condition and that of the Enlarged Group.

We are and the Enlarged Group will be exposed to currency fluctuations

We are and the Enlarged Group will be exposed to the translation of the results of overseas subsidiaries into pounds sterling as well as the impact of currency fluctuations on our commercial transactions in foreign currencies. For significant acquisitions of overseas companies, borrowings are raised in the localappropriate currency to minimizeminimise the balance sheet translation risk.

In the 2005 and 2006 fiscal years, 58% (£6,519 million) and 59% (£6,914 million)2007 financial year, 61% or £7,502 million of our revenue respectively, and 63% (£780(2006:59% or £6,914 million; 2005: 58% or £6,519 million) and 62% (£815 million)61% or £863 million of our profit from operations respectively, was(2006:62% or £815 million; 2005: 63% or £780 million) were generated in markets outside the United Kingdom. The majority of sales in these markets are invoiced by us in currencies other than pounds sterling, in particular the euro.  in euros and U.S. dollars.

Our material foreign currency denominated costs include the purchase of tobacco leaf, which is sourced from various countries but purchased principally in U.S. dollars, and packaging materials, which are sourced from various countries and purchased in a number of currencies. According to Altadis’ 2006 consolidated management report, Altadis has investments in foreign entities which operate in countries whose currency is different from the euro (mainly in Morocco, Russia, Cuba and the U.S.). Altadis’ 2006 consolidated management report does not indicate that Altadis has any significant operations in the United Kingdom or

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Risks relating to the proposed acquisition

We have not had significant due diligence access to the Altadis Group and it may not perform in line with expectations

While the Altadis shares are listed on the Madrid, Barcelona, Bilbao and Valencia stock exchanges and on Eurolist by Euronext Paris and, as a consequence, Altadis is subject to public reporting obligations, there can be no assurance that information publicly disclosed by Altadis, or disclosed to us as part of our due diligence, includes all information necessary to make an informed assessment of Altadis’ prospects, results of operations and financial condition. There is a risk, therefore, that we will fail to discover certain liabilities of Altadis, or operating or other problems of Altadis prior to completion of the proposed acquisition. Further, there is a risk that the consideration paid to the shareholders of Altadis will be in excess of the actual value of the business of Altadis. Since Altadis is a publicly listed company, we will not be able to obtain representations and warranties in connection with the proposed acquisition.

If the financial results and cash flows generated by the Altadis Group are not in line with our expectations, a write-down may be required against the carrying value of our investment in the Altadis Group. Such a write-down may affect the Enlarged Group’s business and may also reduce our ability to generate distributable reserves by the extent of the write-down and consequently affect our ability to pay dividends.

In addition, certain contracts to which the Enlarged Group is a party, for example joint venture or distribution agreements, may contain change of control clauses which could allow the counterparty to terminate the contracts or could lead to other adverse effects as a result of the proposed acquisition.

The success of the proposed acquisition will be dependent upon our ability to integrate the Altadis Group

While we believe that we have a proven track record of integrating acquisitions, the success of the proposed acquisition will be dependent upon our ability to integrate the Altadis Group without disruption to our and its existing business.

The integration of the Altadis Group may involve particular challenges and will require management attention that would otherwise be devoted to running the business. We can offer no assurance that the Enlarged Group will realise the potential benefits of the proposed acquisition to the extent and within the timeframe contemplated. If we are unable to integrate successfully the Altadis Group, this could have a negative impact on the revenue, profit and financial condition of the Enlarged Group.

The proposed acquisition is conditional and the conditions may not be satisfied

The making of the offer is conditional on a sufficient number of acceptances from the holders of Altadis shares and the removal of the voting limitation contained in Altadis’ bye-laws. There can be no assurance that these conditions will be satisfied and completion will be achieved.

In regard to the proposed acquisition, we received E.U. Commission clearance in October 2007, subject to the Enlarged Group divesting a small number of fine cut and pipe tobacco and cigar brands in certain European markets. Although we believe that the undertakings required will not materially adversely affect the operational and financial performance of the Enlarged Group, there can be no assurance as to the timing or outcome of the undertakings required.

Changes in currency exchange rates may affect how certain items are reported in our accounts

If the proposed acquisition proceeds and the euro appreciates against the pound sterling, as we report in pounds sterling such appreciation will increase the total investment and the cash flow generated by the Altadis Group as reported in our accounts. Conversely, if the proposed acquisition proceeds and the euro depreciates against the pound sterling such depreciation will decrease the total investment and the cash flow generated by the Altadis Group as reported in our accounts.

Possible unavailability of pre-emptive rights for U.S. and other non-U.K. holders of ordinary shares

In the case of an increase of our share capital for cash, our shareholders are generally entitled to pre-emption rights unless such rights are waived by a special resolution of our shareholders at a general meeting or in certain circumstances stated in our articles. To the extent that pre-emptive rights are granted, U.S. and

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B     Business Overview

World data and individual market data referred to herein with respect to us and our competitors are management estimates derived, where available, from a variety of sources, including internal sales data, factory sales information provided by tobacco manufacturers and importers, customs data, trade journals, publications, and governmental statistics as well as independently compiled market research statistics derived from Point of Sale surveys and trade questionnaires. Unless otherwise indicated, market volume and share data referred to herein with respect to us and our competitors refer to unit sales in the relevant fiscal year. All market shares and comparisons of market shares are stated on a moving annual total basis, unless stated otherwise.

Market Background and Environment

Cigarettes

In 2005,2006, the most recent year for which worldwide information is available, an estimated 5.55.6 trillion cigarettes (2004: 5.4(2005: 5.5 trillion cigarettes) were sold throughout the world, including approximatelywith the world’s largest cigarette market, China, accounting for over a third of global consumption. Approximately 0.5 trillion cigarettes were sold in Western Europe (2004: 0.6(2005: 0.5 trillion), approximately 0.7 trillion in North and South America (2004:(2006: 0.7 trillion), approximately 3.13.2 trillion in Asia Pacific (2004: 3.0(2005: 3.1 trillion), approximately 0.70.8 trillion in Eastern Europe (2004:(2005: 0.7 trillion), approximately 0.30.2 trillion in the Middle East (2004: 0.2(2005: 0.3 trillion) and approximately 0.2 trillion in Africa (2004:(2005: 0.2 trillion).

The trend for cigarette volumes

In mature markets, we expect smoking incidence to decline with percentages of smokers within total populations reducing. However, the number of adults in the United Kingdom, Germanyworld is expected to continue to grow and, most other Western European markets has tended to be one of slow decline primarily attributable to successive excise duty increases, increased government regulation and enhanced awareness of health concerns.as a result, we expect that the overall annual global consumption will remain broadly unchanged in the medium term.

In the United Kingdom, sales of U.K. duty-paid cigarettes were approximately 4948 billion in fiscal 2006 (2005: 512007 (2006: 49 billion), placing it among the five largest markets by volume in Western Europe. Total U.K. duty-paid cigarette consumer sales between fiscal years 19992000 and 20062007 fell by an average of approximately 2.8%2.7% per annum. The underlying historic adverse trend has been encouraged particularly by consistent and substantial increases in excise duty on tobacco products, and by increasing governmental regulation and heightened public awareness of smoking-related health concerns.

In Germany, the largest market in Western Europe by volume, total duty-paid sales of approximately 9291 billion cigarettes were recorded in fiscal 2006 (2005: 1012007 (2006: 92 billion). Between fiscal years 19992000 and 2006,2007, market volume for cigarettes has fallen by an average of approximately 5.7%6.0% per annum, following the impact of significant excise duty increases as the German government introduced taxes to fund anti-terrorism and health-care measures. This was partially offset by increased sales of other tobacco products.

The high levels of duty imposed on the sale of tobacco products in many Western European markets have resulted in significant quantities of cigarettes being imported from jurisdictions where duty is lower. These consist of legal imports of both duty free and duty-paid products purchased in other E.U. countries and of illegal imports.

Market sales of duty-paid cigarettes in the U.S. totalled approximately 367 billion in fiscal 2007 (2006: 379 billion). Over the last seven years there has been an average market decline of approximately 2.0% per annum.

Fine cut tobacco

 cut tobacco

We are the market leader in fine cut tobacco in the United Kingdom, The Netherlands, France, Greece, Ireland, Italy and Spain and have a significant share in the high volume German market.

In the United Kingdom and Germany, volume sales of duty-paid fine cut tobacco increased by an average of approximately 7.2%7.5% and 11.7%7.0% per annum respectively between fiscal years 19992000 and 20062007 as consumers

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search for greater value by switching from factory made cigarettes to fine cut tobacco.

In fiscal 20062007 approximately 3,2503,500 tonnes were sold in the United Kingdom (fiscal 2005: 3,0502006: 3,250 tonnes), while approximately 28,30023,000 tonnes were sold in Germany (fiscal 2005: 28,5002006: 28,300 tonnes). Sales of fine cut tobacco products in Germany marginally declined in fiscal 20062007 due to the cessation of the production of Singles tobacco products in March 2006 following a decision of the European Court of Justice that Singles tobacco products should be taxed as cigarettes rather than at the lower rate applicable to fine cut tobacco.

The Dutch market is one of the largest individual fine cut tobacco markets in the world, with approximately 10,50010,300 tonnes sold in fiscal 2006 (2005: 10,9002007 (2006: 10,500 tonnes). It is estimated that fine cut tobacco accounted for approximately 46%45% of all cigarettes and cigarette equivalents smokedthe total tobacco market in The Netherlands in 2006 (2005: 47%2007 (2006: 46%). Sales of fine cut tobacco in The Netherlands have decreased by approximately 2.8%3.0% per annum on average in the period from 19992000 to 2006.2007.

In France, sales of fine cut tobacco have stabilized, at approximately 7,400 tonnes (2006: 7,500 tonnes.tonnes).

Tobacco blends and brands

While there are local variations, cigarettes are manufactured using two principal tobacco blends, Virginia blend and American blend, each accounting for approximately half of the world market. Virginia blend products are predominant in the United Kingdom, Africa and most Asian markets, including China and India. American blend products are predominant in continental, Central and Eastern Europe, the United States, Latin America and the former Soviet Union. Fine cut tobacco is manufactured using blends of light and dark tobacco.

There are significant differences between tobacco markets resulting from local preferences for tobacco blends and brands, the degree of governmental regulation, duty structures and distribution mechanisms in each market. Tobacco products are generally branded products, with different brands preferred in different geographic regions. Consequently, brand ownership and management are important

factors. In a number of markets, tobacco distribution arrangements and governmental regulations, including duty and tariff structures, may act as barriers for new entrants into such markets. See Item 4B: Business Overview—Overview – Regulatory Issues.

Our Strategy

Our primary objective is to create sustainable shareholder value by growing, both organically and through acquisitionacquisitions. To meet this goal, we have established the following corporate strategies:

StrengthenSales development

We see opportunities, both organic and acquisition-led, to enhance and extend our core marketexisting operations in our Rest of Western Europe, United States and Rest of the World regions, with our strong positions in the United KingdomU.K. and Germany.Germany continuing to be key contributors to our overall results.

Our historical roots are in the United Kingdom, which remains our largestUK and most profitable market. Our strategic focus continues to be the profitable development of our strong portfolio across all product groups, building on our market leading positions particularly in cigarettes, fine cut tobacco and rolling papers. Inwe have held a market where advertising restrictions have increased over the last few years, our in-market activities are concentrated at the Point of Sale via our salesforce and trade marketing investments.

We hold a significant market position in Germany in both cigarette and other tobacco products, mainly inherited throughsince our acquisition of Reemtsma in May 2002. OurReemtsma. In both these markets, our strategic focus is the profitable development of our business, through improvements in our share positions in both cigarettes and other tobacco products, with salesforce activities and trade marketing investments supplemented by brand marketing initiatives.portfolio across all product groups.

Expand our presence in international markets through organic growth and tobacco-related acquisitions.

We continue to seek to expand internationally in selected markets through organic growth and tobacco-related acquisitions.

Other than in the U.K. and Germany, we currently operate in a number of markets in Western Europe with important markets including The Netherlands, the Republic of Ireland, France, Belgium, Luxembourg, Spain, Italy,Portugal, Greece Belgium and Luxembourg.Italy. In these Western European markets,countries we are focusingfocused on building our cigarette market shares, leveraging from a strongalong with strengthening our position in fine cut tobacco and rolling papers in the region and supported by our ongoing investment in trade marketing.papers.

Outside of Western Europe we have regional strengths in sub-Saharan Africa, the Middle East, selected countries in Central Europe,and Eastern Europe, Asia and Australasia and in duty free.Duty Free. Our key markets within these regions include the Ivory Coast, Saudi Arabia, Poland, Russia, Ukraine, Taiwan and Australia. Our strategy continues to be focused on developing our international strategic brands, particularly Davidoffand West,regional brands and expanding our market presence while seekingin both existing and new markets. Our recent acquisition of Commonwealth Brands gives us an established platform from which to improve profitability. Our investments support both trade and brand marketing initiatives.

At the same time, with ongoing consolidationgrow in the tobacco industry, we have continued activelyUS market.

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We continue to seek opportunities for acquisitions which increase both increase our international scale and penetration of our targeted markets, particularly where those businesses have highly complementary geographicalgeographic profiles and strong brand portfolios.

Our broad product and brand portfolio includes international cigarette brands such as Davidoff and West and strong regional and local brands such as JPS, Lambert & Butler, Classic, Maxim, Excellence and Horizon. Complementing our cigarette portfolio is our world leadership in fine cut tobacco, rolling papers and tubes with brands such as Golden Virginia, Drum and Rizla. To ensure we continue to leverage and build brand equity, our brand strategy takes a portfolio approach responsive to individual market dynamics and price segmentation.

Increase productivityCost optimization and control costs through capital investment in new production technology and by investing in product design and innovative processing techniques.efficiency improvements

Our continued focus on reducing costs and improving our efficiency supports our sales development. Our ongoing search for productivity improvements, through the effective utilizationuse of our assets and eradication of surplus capacity, continues to driveby optimising our manufacturing strategy andcapacity, is the way we structureprimary driver of our business.

manufacturing strategy. We seek continuous performance improvementimprovements and believe there is continuingfurther potential for cost savings through anour ongoing programprogramme of blend rationalization, streamlining brands through reduction of

stock keeping unitsstandardisation and the extension of best practice across all our manufacturing facilities, while safeguarding our reputation for quality, flexibility and innovation. To this end, we have developed “centers of excellence”, which have not only reduced duplication of activities but also extended “best practice” manufacturing skills and experiences around the group.

Our

This cost focus extends outside ofbeyond manufacturing and, throughout Imperial Tobacco, our culture is focused on cost optimisation and shareholder value creation.

Effective cash management

We have a highly cash generative business. Our focus is on managing capital expenditure and working capital, tax and interest costs. Our strategy is to all aspects of our cost base, includingensure that the management of our capitalcash we generate is used efficiently through acquisitions, organic investment and working capital.returning funds to our shareholders, adding to our value creation.

We have invested £6.2 billion in acquisitions since our listing on the London Stock Exchange in 1996 and have returned over £0.8 billion to shareholders through our share buyback program. We are committed to continuing to expand our business through both acquisitions and organic investment opportunities. We believe our proposed acquisition of Altadis will strengthen our position as the world’s fourth largest international tobacco company. It meets our strict acquisition criteria and provides us with a significant enhancement to our operating platform and scale.

Our dividend policy is to increase dividends broadly in line with growth in adjusted earnings per share, with a payout ratio of around 50%.

These strategies are subject to risks and costs that could prevent us from achieving some or all of our objectives. See Item 3D: Risk Factors.

Business Operations

Our underlying trading performance is discussed in each sectorItem 5A Operating Results.

Our Product Categories and Key Brands

We sell a comprehensive range of cigarettes, other tobacco products, rolling papers and tubes. The other tobacco product category includes fine cut tobacco including roll your own and make your own tobaccos, pipe tobacco, snuff, snus and cigars. Across this multi-product portfolio we have organized our brands into three categories: international, regional and local. Our international strategic brands and certain key regional brands are controlled by our central marketing department, with our other regional and local brands controlled by the most appropriate market.

International strategic brands

Our international strategic cigarette brands are Davidoff and West which account for around 20% of our group cigarette volumes; within fine cut tobacco, our key international brands are Drum and Golden Virginia, which are complemented by our world leading rolling papers brand, Rizla.

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Regional and local brands

We have a number of key regional brands such as JPS in Western Europe, Boss, Classic and Maxim in Central and Eastern Europe, and Excellence in Africa. We also have a strong foundation of local brands that generate significant profit in their domestic markets such as Lambert & Butler and Richmond in the U.K., Horizon in Australia and John Player Blue in Ireland.

Sales and Distribution

Our sales and distribution operations cover five regions: United Kingdom, Germany, Rest of Western Europe, United States and Rest of the World.

Our strategy is to ensure the wide availability of our product ranges at competitive prices, by optimizing the points of sale at which our products are offered and constantly monitoring distribution outlets for availability and price competitiveness. Our objective is to improve market share and long-term profitability by trying to persuade adult smokers to choose our brands rather than those of our competitors.

With many countries adopting the World Health Organization’s Framework Convention on Tobacco Control and the E.U. Advertising Directive, tobacco advertising and sponsorship has been banned or restricted in a number of markets. As conventional means of communication between manufacturers and consumers such as advertising and promotion are progressively withdrawn, effectiveness at the point of sale becomes increasingly important.

During the year we have continued to invest in sales force technology and analysis tools throughout the Group, and we believe the information provided gives us competitive advantage and supports regular, frequent contact with targeted retailers.

We have our own International Standard for the Marketing of Tobacco Products which is available on our website at www.imperial-tobacco.com. This underpins our existing high standards for self-regulation of advertising and marketing practices.

The selling of tobacco products is not of a strongly seasonal nature in most of the markets in which we operate. However, there is a modest uplift in sales during the summer months.

Competition

The five largest international tobacco companies are Altria, British American Tobacco (“BAT”), Japan Tobacco (including recently acquired Gallaher), Imperial Tobacco and Altadis. Their share of global market is described below.volumes, excluding China, are approximately 28%, 25%, 16%, 6% and 3% respectively.

United Kingdom

We estimate that

Our principal competitor in the U.K. tobacco market is Japan Tobacco. For more than 30 years, we and Gallaher have held an aggregate estimated share of over 70% of the U.K. cigarette market decreasedbased on unit sales. As at the end of September 2007, Gallaher had an estimated U.K. market share based on unit sales in each of the cigarette and fine cut tobacco markets of approximately 38% and 29%, respectively. The other major participants in the U.K. cigarette market are Altria and BAT, which had estimated U.K. cigarette market shares of approximately 8% and 5% respectively in fiscal 2007.

Germany

In Germany our main competitors are Altria and BAT. In fiscal 2007, they had an estimated cigarette market share of 36% and 19%, respectively. In the growing other tobacco products sector we primarily compete with BAT and Altria, who had estimated market shares of approximately 21% and 14% respectively in this segment.

United States

In the United States our main competitors are Altria and Reynolds American who in the twelve months to June 30, 2007 had cigarette market shares of approximately 49% and 28% respectively.

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