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Gallaher Group PLC (GLH)

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Wednesday 08 September, 2004

Gallaher Group PLC

Interim Results

Gallaher Group PLC
08 September 2004


8 September 2004

                        ANNOUNCEMENT OF INTERIM RESULTS
                     FOR THE SIX MONTHS ENDED 30 JUNE 2004

                              FINANCIAL HIGHLIGHTS

                                             2004           2003

   • Volumes                               79.3bn         73.7bn     up 7.6%

   • Total turnover                       £4,673m        £4,325m     up 8.1%

   • Net turnover(1)                      £1,940m        £1,752m    up 10.7%

   • EBITA(2)                               £310m          £305m     up 1.9%

   • PBTA(3)                                £250m          £241m     up 4.4%

   • Adjusted profit before tax(4)          £209m          £200m     up 5.2%

   • Profit before tax                      £200m          £162m    up 24.1%

   • Adjusted earnings per share(5)         27.8p          26.6p     up 4.4%

   • Basic earnings per share(6)            20.6p          15.7p    up 31.7%

   • Interim dividend                       10.0p          9.45p     up 5.8%

(1) Total turnover less duty paid by Group companies.
(2) Total operating profit before amortisation of intangible assets and
    exceptional charge.
(3) Profit before tax, amortisation of intangible assets and exceptional charge.
(4) Profit before tax and exceptional charge.
(5) Adjusted: before amortisation of intangible assets and exceptional charge
    (net of tax).
(6) Basic: includes amortisation of intangible assets and exceptional charge.

Note: Amortisation of intangible assets was £41m (2003 H1: £41m) and exceptional
charge was £9m (2003 H1: £38m).

Commenting on the performance, Nigel Northridge, chief executive, said:

"We continue to grow our volumes and profits year-on-year in the face of
difficult trading conditions in a number of European markets, coupled with the
negative effect of foreign exchange. We have grown share in a number of key
markets and continue to deliver on our Eurasian strategy. In addition,
improvements in cash flow coupled with continued operating efficiencies underpin
our confidence for the future."

Enquiries:

Claire Jenkins - director, investor relations        Tel: 01932 832637

Anthony Cardew / Tim Robertson - CardewChancery      Tel: 020 7930 0777


                             PERFORMANCE HIGHLIGHTS

   • Total cigarette volumes grew 7.6% to 79.3bn and EBITA increased 1.9% to
     £310m. Gallaher performed well in a number of key markets in Europe and
     across the CIS. The Group benefited from the restructuring programme
     initiated in 2003. Increased excise taxation and cross-border trade in
     Europe, and adverse currency movements, reduced the effect of a strong
     underlying performance.

   • The board has declared an interim dividend of 10.0p per ordinary share
     (40.0p per ADS) - an increase of 5.8% over the 2003 interim dividend.

   • UK EBITA grew 3.5% to £148m (2003 H1: £143m), benefiting from volume
     growth, price increases and reduced operating costs.

   • CED EBITA reduced 2.3% to £120m (2003 H1: £123m), reflecting the
     negative effects of difficult trading conditions in a number of established
     markets, start-up losses in Poland and adverse currency movements, which
     were largely mitigated by the Group's strong growth in other markets and
     price increases.

   • CIS EBITA increased 9.5% to £15m (2003 H1: £14m) despite adverse foreign
     exchange rate movements, owing to strong volume growth and an improvement 
     in mix of sales.

   • RoW EBITA rose 9.5% to £27m (2003 H1: £25m), with adverse currency
     movements and volume declines being more than offset by manufacturer price
     increases and reduced operating costs.

   • Gallaher's Memphis brand was launched in Shanghai in May as part of the
     Group's reciprocal agreement with Shanghai Tobacco Group.

   • Net debt at 30 June 2004 reduced £252m compared to 31 December 2003. The
     decrease was attributable to a net cash inflow of £174m and favourable
     translation of the Group's euro-denominated debt.

   • Group cigarette unit costs reduced 6.7% in real terms. This strong
     performance reflected improved productivity - largely arising from the
     operational restructuring programme - and a reduction in leaf and
     non-tobacco material costs.

   • Gallaher's performance in the first half of 2004 demonstrated the
     benefits of the Group's balanced portfolio of interests. Strong growth in
     certain key European and CIS markets more than offset the difficult trading
     conditions in France, Germany and Austria, as well as the negative effects
     of exchange rate movements.

Overall Group trading remains in line with expectations. At earnings per share,
improved prospects in the UK - including accelerated benefits from the
restructuring programme - should broadly offset worsening conditions in
Continental Europe, notably the impact of the continued deterioration of the
branded cigarette market in Germany on the Group's vending operation.
                                     

                                  FINANCIAL REVIEW

Group

Total turnover for the first half of 2004 at £4,673m increased 8.1% compared
with 2003 H1, with cigarette volume sales - of 79.3bn sticks - up 7.6%. Turnover
excluding duty ("net turnover") grew 10.7% to £1,940m (2003 H1: £1,752m).

Earnings before interest, tax, intangible asset amortisation and exceptional
charge ("EBITA") increased 1.9% to £310m (2003 H1: £305m).

Profit before tax, amortisation of intangible assets and exceptional charge
("PBTA") grew 4.4% to £250m (2003 H1: £241m). Profit before tax and exceptional
charge (adjusted profit before tax) increased 5.2% to £209m (2003 H1: £200m).

Total operating profit was £260m (2003 H1: £226m) and profit before tax was
£200m (2003 H1: £162m) - both ahead on trading improvements and a lower
exceptional charge of £9m (2003 H1: £38m) relating to the restructuring of
Gallaher's European operations.

Following Gallaher's announcement of its European operations and administration
restructuring, an exceptional charge of £39m was included in the results for the
year ended 31 December 2003. An additional charge of £9m associated with this
programme has been included in the results for the six months ended 30 June
2004. The total cost of the restructuring is expected to be in the region of
£65m by the end of 2005, relating predominantly to redundancy payments and the
impairment of operational plant and machinery. Once the project has been
completed, by the end of 2005, Gallaher expects to achieve annualised savings of
at least £20m. This restructuring is progressing well.

Adjusted earnings per share increased 4.4% to 27.8p (2003 H1: 26.6p). After
deducting intangible asset amortisation and the exceptional charge, net of tax,
basic earnings per share was 20.6p (2003 H1: 15.7p).

Gallaher's overall performance has been negatively impacted by the effects of
foreign exchange translation - reflecting a marginally weaker euro and a
significantly weaker US dollar. These effects, however, are partly offset at
earnings per share by Group hedging activity, particularly in respect of the
euro.

The board of Gallaher has declared an interim dividend of 10.0p per ordinary
share, an increase of 5.8% over the 2003 interim dividend of 9.45p. This
dividend will be paid on 22 November 2004, to all shareholders on the register
at close of business on 24 September 2004. For ADS holders, The Bank of New York
will convert the 40.0p ADS dividend into US dollars, and distribute it to ADS
holders on 30 November 2004.

Management believes that reporting results before amortisation and exceptional
charges (EBITA, PBTA and adjusted earnings per share) provides a better
comparison of underlying business performance for the period under review.

Segmental review

                             UK           CED       CIS       RoW       Total
                            (£m)         (£m)       (£m)      (£m)       (£m)
Gross turnover
                     2004   1,853       2,414       171       235       4,673
                     2003   1,758       2,162       164       241       4,325
Net turnover(1)
                     2004     286       1,468       126        60       1,940
                     2003     285       1,275       130        62       1,752
EBITA(2)
                     2004     148         120        15        27         310
                     2003     143         123        14        25         305
Total operating profit
                     2004     142          81        10        27         260
                     2003     125          87         9         5         226
EBITA margin(3)
                     2004(%) 52.0         8.2      11.8      45.0        16.0
                     2003(%) 50.3         9.6      10.5      39.3        17.4

(1) Gross turnover less duty paid by Group companies.
(2) Total operating profit before amortisation of intangible assets and exceptional charge.
(3) Total operating profit before amortisation of intangible assets and exceptional charge
    expressed as a percentage of net turnover.

United Kingdom

UK turnover increased 5.4% to £1,853m (2003 H1: £1,758m). The increase largely
reflects: higher cigarette volume sales - up 3.3% to 10.3bn sticks (2003 H1:
10.0bn) - reflecting a weaker comparator period last year; and, price increases
(UK government duty and Gallaher's own price increases) partially offset by
downtrading of customers to cheaper cigarettes.

UK net turnover increased 0.2% to £286m (2003 H1: £285m).

UK EBITA was up 3.5% at £148m (2003 H1: £143m) mainly reflecting lower operating
costs benefiting from the initial savings of the operational restructuring begun
in 2003 and the comparison to 2003 H1 that included incremental marketing
investment.

This reduction in operating costs resulted in an improved EBITA margin of 52.0%
(2003 H1: 50.3%).

UK operating profit was £142m (2003 H1: £125m) - the increase largely reflecting
the lower UK exceptional charge in 2004 of £5m (2003 H1: £17m).

Continental Europe

In the first half of 2004, Continental Europe ("CED") delivered a robust
performance in the face of difficult trading conditions, with pressure on both
volumes and margins in key markets. Total turnover grew by 11.7% to £2,414m
(2003 H1: £2,162m), despite the weaker euro.

CED cigarette volume sales grew by 10.0% to 24.3bn (2003 H1: 22.1bn). Underlying
volume growth was 2.0%, after adjusting for the volume sales in Poland, where
Gallaher purchased KT Merkury in July 2003.

CED net turnover increased 15.1% to £1,468m (2003 H1: £1,275m), comprising: CED
tobacco net turnover of £216m (2003 H1: £209m); and distribution net turnover of
£1,252m (2003 H1: £1,066m). The growth in tobacco net turnover mainly reflected
the first time inclusion of Polish sales and a change in the accounting
treatment of Italian market sales. In 2003, Gallaher invoiced Italian sales
directly from its joint venture, RGI, and recognised only 50% of these sales in
net turnover. In 2004, RGI sold directly to a Gallaher subsidiary in Italy that
sold on to the Italian market. Accordingly, Gallaher now recognises 100% of
these sales and the related cost of sales, while continuing to recognise its 50%
share of joint venture profits. This change has therefore resulted in: a £9m
increase in both net turnover and costs; no impact on EBITA; and, a slight
dilution of tobacco EBITA margin. The increase in distribution net turnover
reflects the inclusion of £238m from the purchase of Lekkerland Europa ("LEH")
by the Group's associate Lekkerland-Tobaccoland ("L-T") in January 2004.
Underlying distribution net turnover declined by 4.9%, reflecting market
declines in Austria and Germany.

Reflecting the difficult trading conditions, CED EBITA was £120m (2003 H1:
£123m) of which £86m (2003 H1: £90m) arose from the tobacco operations and £34m
(2003 H1: £33m) came from the distribution businesses.

The success of the Group in taking price increases, defending its mature market
positions and developing its operations in newer markets, such as the Balkans
and the Swedish snus market - as well as the continued successful development of
RGI - has enabled the tobacco operations to largely offset the effects of market
declines across Austria, France and Germany, absorb the start-up losses of the
Polish operation and mitigate the adverse foreign currency impact.

The tobacco operations EBITA margin, after adding back inter-company sales to
the distribution businesses, was 33.3% (2003 H1: 34.3%), this decrease mainly
reflecting the start-up losses in Poland and the dilutive effect of the change
in invoicing of Italian market sales. The inclusion of LEH since January 2004
has contributed to a reduction in the distribution EBITA margin to 2.7% (2003
H1: 3.1%). Reflecting the increased weighting of the distribution businesses
within the divisional results, CED's EBITA margin was 8.2% (2003 H1: 9.6%).

CED operating profit was £81m (2003 H1: £87m) reflecting the trading position
noted above and the increased exceptional charge of £4m (2003 H1: £1m).

Commonwealth of Independent States

The Commonwealth of Independent States ("CIS") displayed strong volume growth,
an improvement in sales mix and market share gains across the region. Volumes
increased by 9.6% to 39.8bn sticks (2003 H1: 36.3bn). This has been achieved
despite excise duty increases in both Russia and Ukraine and manufacturer price
increases. These factors more than offset the impact of the substantially weaker
US dollar on CIS turnover, which increased 4.5% to £171m (2003 H1: £164m), but
only partly offset the currency impact on CIS net turnover which reduced to
£126m (2003 H1: £130m).

CIS EBITA increased 9.5% to £15m (2003 H1: £14m). This growth disguises the
adverse impact of the translation of CIS earnings into sterling. CIS EBITA
margin rose to 11.8% (2003 H1: 10.5%), reflecting price increases, improved
production cost efficiency and continued growth of premium brands in Russia and
Kazakhstan.
                                
Management anticipates that the distribution of CIS full year earnings will
reflect this region's traditional trading pattern with approximately one third
of annual earnings being attributable to the first half. Volumes are typically
stronger in the second half which tends to benefit full year EBITA margin due to
the improvement in fixed cost recovery.

Rest of World

Gallaher's Rest of World ("RoW") turnover declined by 2.6% to £235m (2003 H1:
£241m), and RoW net turnover declined 4.2% to £60m (2003 H1: £62m). These
movements mainly reflect a combination of adverse exchange movements in the
Republic of Ireland and the Africa and Middle East ("AMELA") regions and lower
volumes, mainly in the AMELA regions. RoW volume sales totalled 4.9bn cigarettes
(2003 H1: 5.3bn).

In the Republic of Ireland, manufacturer's price increases and favourable
changes to the cost structure as a result of the factory closure in 2003 more
than compensated for lower volumes in the reduced Irish market. Gallaher has
also been able to mitigate the effects of reduced volumes in the AMELA region
through tight control of the cost base.

RoW EBITA rose 9.5% to £27m (2003 H1: £25m) and the EBITA margin increased to
45.0% (2003 H1: 39.3%).

RoW operating profit was £27m (2003 H1: £5m) - the increase mainly reflecting
the absence of a RoW exceptional charge in 2004 (2003 H1: £20m).

Interest

Positive cash flow and the favourable impact of the translation of euro interest
payable into sterling resulted in lower net interest charges of £63m (2003 H1:
£67m) before an FRS 17 net financing credit of £3m (2003 H1: £3m). The average
borrowing cost during the first six months of 2004 was 5.5% (2003 H1: 5.5%).

EBITA interest cover - combining both interest and operating components of FRS
17 into a net pension expense within EBITA - was 5.0 times (2003 H1: 4.6 times),
within the Group's target range of between 4.5 and 5.5 times.

Taxation

The tax charge of £64m (2003 H1: £57m) represents an effective rate of 32.0%,
compared with 35.3% for 2003 H1. The reduction in the effective rate largely
reflects a low effective tax credit applicable to the higher exceptional charge
in 2003. Removal of intangible amortisation charges and the exceptional charge
gives rise to an adjusted effective tax rate of 26.9% (2003 H1: 26.7%). The
Group expects the annual adjusted effective rate to remain at around this level
over the medium-term.

Returns to shareholders

After deducting minority interests of £2m (2003 H1: £3m) earnings increased to
£134m (2003 H1: £102m), and - following a 0.3% increase in the weighted average
number of shares in issue - basic earnings per share was 20.6p (2003 H1: 15.7p).

After removing intangible asset amortisation charges of £41m (2003 H1: £41m) and
the net of tax exceptional charge of £6m (2003 H1: £30m), adjusted earnings per
share increased by 4.4% to 27.8p (2003 H1: 26.6p).

Cash flow

Operating cash flow before exceptional items increased significantly to £438m
(2003 H1: £280m). Group operating profit, as adjusted for the exceptional
charge, depreciation and amortisation ("EBITDA") was £338m (2003 H1: £343m).
This was supplemented by a reduction in working capital of £109m, compared to an
increase of £60m during 2003 H1. Cash costs relating to the exceptional charge
were £5m (2003 H1: nil).

The net working capital decrease since 31 December 2003 was mainly the result of
higher duty and VAT creditors in Ireland and the UK, partly offset by higher UK
duty-paid finished goods following the June manufacturer's price increase. A
number of these factors are seasonal and would be expected to reverse in the
second half of 2004.

The adverse working capital movement in 2003 H1 largely reflected a delay in the
UK chancellor's budget to April, which impacted the level of duty creditors.

Net finance payments of £42m were £9m lower than 2003 H1 through the lower
interest charge and the timing of annual interest payments.

Net capital expenditure and financial investments of £55m reflect the continuing
investment in production machinery, vending and merchandising equipment.

Net debt at 30 June 2004 was £2,200m, a reduction of £252m compared to the
position at 31 December 2003. The decrease was attributable to a cash inflow of
£174m and favourable exchange rate movements - amounting to £78m - on Gallaher's
euro denominated debt.

In June 2004, the Group issued a €800m bond maturing in June 2011, the proceeds
of which will be applied with internal cash flow to repay the €900m bond that
matures in January 2005. The weighted average maturity of committed debt at the
half year was 4.0 years (2003 year-end: 3.5 years).

The 12-month rolling net debt to EBITDA ratio was 3.1 times (2003 FY: 3.4
times), below the Group's current bank covenant level of 3.75 times.

The Group's debt ratings from Moody's Investor Services and Standard & Poor's
remain unchanged at Baa3 with stable outlook and BBB with stable outlook
respectively.

                             OPERATING REVIEW

Group

During the first half of 2004, Gallaher continued to make progress with its
strategy of creating value for investors through the development of a balanced
portfolio of interests in established and emerging markets across Europe and
Asia - despite difficult trading conditions in some key markets.

The Group's leading positions in the mature markets of the UK, Republic of
Ireland, Austria and Sweden underpinned gains in its growth markets in Europe
and the CIS.

Gallaher's total volumes grew significantly - up 7.6% to 79.3bn cigarettes. This
growth was driven by market share gains in the CIS and Continental Europe -
notably in Russia, Kazakhstan, Ukraine, Italy and Poland.

Divisional cigarette volumes

                                       2004 H1          2003 H1          Change
                                        (bn)              (bn)             (%)
UK                                      10.3              10.0             3.3
Continental Europe(1)                   24.3              22.1            10.0
CIS                                     39.8              36.3             9.6
Rest of World                            4.9               5.3            (8.2)
Total Group(2)                          79.3              73.7             7.6

(1) Total CED volumes excluding those attributable to Gallaher Poland (formerly
    KT Merkury), which was acquired in the second half of 2003, increased 2.0% 
    to 22.6bn cigarettes. Gallaher's Polish volumes were 1.7bn cigarettes in the 
    first half of 2004. In the first half of 2003, KT Merkury's volumes were 
    0.8bn cigarettes.
(2) Total Group volumes excluding those attributable to Gallaher Poland
    increased 5.2% to 77.6bn cigarettes.

United Kingdom

In the UK, Gallaher increased its share of value cigarettes, while maintaining
its leading positions in the premium cigarette and cigar sectors.

- Cigarette

Total UK cigarette market volumes declined by an estimated 1.5% during the first
half of 2004 and moderate downtrading from premium and mid-price into value
cigarettes continued. The shares of retail sales accounted for by each price
sector were: value: 58.6% (2003 H1: 55.8%); mid-price: 10.4% (2003 H1: 11.6%);
and, premium: 31.0% (2003 H1: 32.6%).

Gallaher's UK volumes grew 3.3% to 10.3bn cigarettes. This increase largely
reflected a weak first half in 2003 due to the phasing of trade sales into
December 2002. Excluding the effect of this phasing, Gallaher's underlying
volumes were broadly flat.

The Group's total cigarette market share was 38.7% excluding distributed brands
(2003 H1: 38.3%). Gallaher continues to lead the premium cigarette sector with a
share of 46.9% (2003 H1: 48.1%) and has increased its share of the value
cigarette sector to 35.0% (2003 H1: 32.9%).

Gallaher's UK houses, Benson & Hedges and Mayfair, supported this performance.
Benson & Hedges' market share increased to 9.5% (2003 H1: 9.1%) and Mayfair
continued to perform strongly, growing share to 11.3% (2003 H1: 10.1%). These
share gains were moderated by small declines from Dorchester, Berkeley and Silk
Cut.

- Cigar

The total UK cigar market was estimated to have declined by over 8% during the
first half of 2004 and downtrading from medium-sized cigars to smaller cigars
continued.

Gallaher maintained its lead of the UK cigar market with a share of 46.7% (2003
H1: 47.1%). The market leader Hamlet expanded its share of the medium cigar
sector to 54.8% (2003 H1: 54.4%) and Hamlet Miniatures' share of the small cigar
sector was slightly lower at 31.6% (2003 H1: 32.2%).

- Tobacco

The total UK handrolling tobacco market was estimated to have grown by over 8%
in the first half of 2004 and moderate downtrading into low-priced brands
continued.

Gallaher's share was 30.1% (2003 H1: 31.7%) with an increase in Amber Leaf's
share to 16.6% (2003 H1: 15.8%) more than offset by the ongoing decline of Old
Holborn.

The small UK pipe tobacco market declined by an estimated 9% in the first half
of 2004. Gallaher continues to lead this market with a 49.0% share (2003 H1:
50.3%).

Continental Europe

In Continental Europe, Gallaher made progress with its strategy of defending its
leading positions in the mature Austrian and Swedish cigarette markets, while
growing share elsewhere - notably in Italy, Central and Eastern Europe and the
Swedish snus market.

Duty-paid cigarette markets across Continental Europe experienced substantial
volume declines from increased taxation and cross-border trade.

Despite this market disruption, Gallaher increased its underlying Continental
European volumes 2.0% to 22.6bn cigarettes. The Group's total Continental
European volumes increased 10.0% to 24.3bn cigarettes - reflecting the
acquisition of KT Merkury in the second half of 2003 and the growth subsequently
achieved in Poland.

- Tobacco products

The duty-paid Austrian cigarette market declined around 8% in the first half of
2004 - largely as a result of increased illegal cross-border trade from new EU
member states.

The decline in Gallaher's Austrian market share has moderated when compared with
recent years. The Group's total market share was 45.8% (2003 H1: 46.2%). This
performance was supported by the stabilisation of Memphis Classic Full Flavour's
market share at 13.0% (2003 H1: 12.8%) and growth in Memphis Blue's market share
to 6.9% (2003 H1: 6.1%).

Cigarette market volumes in Sweden were down some 4%, partly reflecting a strong
comparator period in 2003 H1. Gallaher's total market share was 38.6% (2003 H1:
39.7%). This reduction was largely due to the ongoing decline of the Group's
mature brand Blend.

Gallaher gained share in the growing Swedish snus market. The Group's snus
market share increased to 2.4% by June/July 2004 (June/July 2003: 1.3%). This
performance was driven by the ongoing success of Gustavus and the growth of
Grand XL, which was introduced in January 2004.

In Germany, the total duty-paid cigarette market declined 13.5% in the first
half of 2004 - with the rate of decline accelerating following the introduction
of the first of a planned three-part increase in cigarette taxation effective at
the end of March.

Private label cigarette volumes outperformed the total market with a first half
decline of 5.0% - leading to an increase in the sector's share of the total
market to 17.0% (2003 H1: 15.4%). Branded cigarette volumes declined 15.0% in
the first half, reflecting a 21.6% decline in the three months following the tax
increase.

Gallaher's performance in the German cigarette market was strong. The Group
increased its share of the total market held through private label cigarettes to
8.5% (2003 H1: 6.6%), while maintaining its branded cigarette market share at
0.7%.

In Greece, the cigarette market has experienced accelerated downtrading from
premium to lower-priced brands. This trend has impacted Gallaher's principal
brand Silk Cut, which experienced a 7.0% volume decline. Independent market
share data for Greece is not presently available, however, sample data suggests
that Silk Cut's niche appeal is helping it outperform other premium brands. In
the handrolling tobacco market Old Holborn performed well, growing total volumes
18.0%.

In France, the total duty-paid cigarette market declined 24.9% in the first half
of 2004, as a result of successive steep increases in cigarette taxation.

The performances of both Gallaher's Benson & Hedges Metal range and the Benson &
Hedges American Blend cigarettes marketed by RGI were robust. The Group's total
market share increased slightly to 3.2% (2003 H1: 3.1%).

Duty-paid cigarette market volumes in Italy and Spain were relatively stable. In
Italy, the success of Benson & Hedges American Blend drove an increase in
Gallaher's total market share to 4.8% (2003 H1: 3.1%). The Group's total market
share in Spain declined to 1.6% (2003 H1: 1.8%).

Gallaher has continued to develop its operations in Central and Eastern Europe.

In Poland, the Group's cigarette market share grew throughout the first half of
2004, reaching 4.0% by June, up from 2.6% in December 2003. Gallaher's success
in Poland is being driven by the introduction of brands from its international
portfolio into the market, including LD, Level and Benson & Hedges.

Gallaher also made good progress in the Balkans. The Group increased its
pan-Balkan market share to an estimated 5.3% (2003 H1: 4.8%). Foundations for
further growth in the region will be enhanced by local production in Romania,
where Gallaher has leased a small factory.

- Distribution

Gallaher's distribution businesses were impacted by the difficult market
conditions in Austria and Germany during the first half of 2004.

In Austria, TOBA's tobacco distribution operations were affected by the decline
in total market volumes. This impact was, however, broadly offset in the first
half by increased efficiency and an ongoing focus on the distribution of
non-tobacco products and sales force services.

In Germany, ATG - the vending company in which Gallaher has a 63.9% holding -
was affected by the decline in total market volumes and downtrading from branded
cigarettes to lower-priced tobacco products, particularly after the duty
increase in March. In the three months following this increase, ATG's cigarette
volume sales declined 23.3% reflecting the decline in German branded cigarette
volumes and disadvantageous optical pricing in the vending channel.
Notwithstanding this, the company performed well in relative terms - slightly
increasing its share of total first half cigarette sales to 6.0% (2003 H1: 5.9%)
due to a strong performance in the first quarter.

Lekkerland-Tobaccoland - an associate in which Gallaher has a 25.1% holding -
was impacted by the lower German cigarette market volumes in the first half of
2004. The operating impact of these lower volumes on the company was partly
offset by the expansion of its business outside Germany following its
acquisition of Lekkerland Europa in January 2004.

Commonwealth of Independent States

In the CIS, Gallaher made excellent progress with its strategy of gaining market
share, while increasing the proportion of its brands sold in the intermediate-
and higher-priced sectors across the region.

                                       
CIS cigarette markets continued to develop, with a greater proportion of smokers
choosing intermediate- and higher-priced brands. This trend was particularly
pronounced in Russia, where the higher-priced sector increased its share of the
total market to 29.3% (2003 H1: 25.0%). Within this sector, the premium
sub-sector grew its share of the total market to 10.0% (2003 H1: 8.5%).

Gallaher increased its total CIS volumes 9.6% to 39.8bn cigarettes. This growth
was driven by gains in market share in Russia, Kazakhstan and Ukraine, and some
export growth to adjacent markets.

- Russia

In Russia, Gallaher increased its share of the total cigarette market to 15.9%
(2003 H1: 14.5%). This growth was driven by the success of a variety of brands
in the intermediate- and higher-priced sectors including St George, Troika, and
Sobranie, underpinned by the continuing success of LD, which slightly increased
market share to 5.3% (2003 H1: 5.2%).

The Group continued to enhance its sales mix during the first half, increasing
its share of the higher-priced sector to 3.4% (2003 H1: 2.2%) and its share of
the intermediate-priced sector to 23.6% (2003 H1: 20.9%). Within the
higher-priced sector, Gallaher grew its share of the premium sub-sector to 3.6%
(2003 H1: 2.2%).

- Kazakhstan

In Kazakhstan, Gallaher grew its share of the total cigarette market to 34.2%
(2003 H1: 27.9%). This growth was driven by gains from brands across the
higher-, intermediate- and low-priced sectors including Sovereign, Sobranie and
LD.

The Group increased its share of the higher-priced sector to 59.5% (2003 H1:
47.5%). Within the higher-priced sector, Gallaher grew its share of the premium
sub-sector to 29.5% (2003 H1: 26.8%).

- Ukraine

In Ukraine, Gallaher grew its share of the total cigarette market to 13.3% (2003
H1: 11.2%). Gains from the intermediate- priced brands including St George and
Troika, and the introduction of the intermediate-priced brand Level into the
market last year, drove this growth.

Gallaher increased its share of the intermediate-priced sector to 17.9% (2003
H1: 14.9%).

Rest of World

In its Rest of World division, Gallaher continued defending share in the high
margin Republic of Ireland market, while establishing platforms elsewhere.

The Group's total Rest of World volumes declined 8.2% to 4.9bn cigarettes. This
decline was due to lower AMELA volumes (including those volumes manufactured
under contract) and a reduction in Irish market volumes.

- Republic of Ireland

The total cigarette market in the Republic of Ireland declined around 7.5% in
the first half of 2004. This reduction was influenced by successive above
inflation duty increases, which have affected affordability of tobacco products
and impacted cross-border trade.

The ban on workplace smoking, effective from the end of March, has also affected
market volumes. Monthly volumes have varied widely since the introduction of the
ban, influenced by de-stocking in the vending channel (which largely operates in
pubs and clubs) and the weather. It is too early to assess what the longer-term
impact of the ban will be.

Gallaher's cigarette volume sales were 1.3bn (2003 H1: 1.4bn). The Group
maintained its lead of the cigarette market with a share of 49.0% excluding
distributed brands (2003 H1: 48.4%).

- AMELA

Gallaher's AMELA (Africa and Middle East) volumes reduced 8.1% to 2.9bn
cigarettes in the first half of 2004, with a solid performance in Gallaher's
core West African markets being more than offset by a reduction in volumes
elsewhere (including contract manufacture).

AMELA operations have now been included within Gallaher's developing markets'
management structure - which also incorporates the Group's CIS operations.
Gallaher intends to increase its focus on AMELA markets, building on its
positions in West Africa.

- Asia Pacific

Gallaher achieved a modest increase in its total Asia Pacific volumes during the
first half of 2004, most notably due to gains in China, Taiwan and Asia's
regional duty free market.

In the longer-term, China's entry into the World Trade Organisation may present
significant growth opportunities for international companies.

The Group is well placed to achieve growth in China. In the premium segment,
consumer awareness of the Sobranie house is being built through the importation
of several variants. Sales of Sobranie have increased sharply and it now has a
share of approximately 5% of the small but growing imported cigarette sector.

Gallaher's mid-priced Memphis brand was launched in Shanghai in May. Memphis is
manufactured and distributed in China in partnership with Shanghai Tobacco
Group.

In Taiwan, Sobranie Slims achieved good growth and increased its share of the
growing slims sector. Gallaher also made solid progress in Asia's regional duty
free market.

Manufacturing

Gallaher maintained its position at the forefront of manufacturing efficiency
during the first half of 2004. The Group increased its overall cigarette
manufacturing productivity (defined as output per worked hour) 12.5%. This
increased level of productivity, and a reduction in leaf and non-tobacco
material ("NTM") costs, reduced the Group's unit costs 6.7% in real terms.

This positive performance was boosted by the commencement of the Group's
European manufacturing restructuring and demonstrates again the quality of
Gallaher's manufacturing assets and expertise.

Gallaher expects productivity in the second half of 2004 to be impacted by a
planned move to standardise pack specifications across the Group.

- United Kingdom

Productivity at Gallaher's Lisnafillan cigarette factory - which principally
supplies the Group's UK and Rest of World divisions - increased 27.7%. This was
due to: a major re-organisation of working practices, including job reductions
during the period; and, higher volumes following the transfer of production for
the Republic of Ireland from Dublin in the latter part of 2003.

Real-term unit costs at the Lisnafillan cigarette factory reduced 14.0%. This
improvement reflected both increased productivity and lower tobacco and NTM
costs.

Productivity at Gallaher's Lisnafillan tobacco factory increased 14.5%, due to
planned restructuring and higher volumes. Real-term unit costs reduced 6.6%. A
programme of investment designed to increase further the factory's efficiency
and flexibility has begun and is progressing in-line with expectations.

Productivity at Gallaher's Cardiff cigar factory decreased 6.1%. This reduction
reflected a significant increase in the number of brands produced at the
factory, to serve export markets, combined with lower domestic volumes. The
reduced productivity more than offset an improvement in leaf costs, leading to a
5.4% rise in real-term unit costs.

- Continental Europe

Cigarette productivity at Gallaher's Continental European factories in Austria
increased 16.8% resulting from the restructuring announced last year, together
with improved factory efficiencies and higher volumes.

Real-term cigarette unit costs reduced 9.6%, largely due to the increased
productivity and lower leaf and NTM costs.

A project to centralise and bring in-house the manufacture of specialist filters
for Gallaher's company-wide requirements in Austria was completed as planned.
Improved manufacturing process control systems were successfully installed in
the Linz and Hainburg factories.

The installation of new machinery in the Poland factory facilitated an increase
in output and allowed Gallaher to launch a range of its international brands. In
addition to this, the factory is now being used for specialist blend processing
- enabling more efficient production and supply of certain blends to the wider
Group.

In Sweden, investment in Gallaher's snus factory has enabled a sharp increase in
output to meet the Group's growing market share while retaining flexibility for
further growth.

- Commonwealth of Independent States

Cigarette productivity in the CIS increased 6.6%.

This increase in productivity drove a real-term reduction in unit costs of 2.9%,
despite greater demand for Gallaher's higher-priced cigarettes across the
division.

The machinery investments made in Gallaher's Moscow factory in recent years
provided the flexibility to meet the growing demand for intermediate- and
higher-priced products in Russia. Product costs and quality were further
enhanced by the installation of several high-speed laser units.

In Kazakhstan, new primary processing equipment and faster machinery led to
higher output, productivity and product quality.

In Ukraine, the arrival of additional production lines from other CIS factories
allowed Gallaher both to raise outputs and launch a wider range of higher-priced
cigarettes.
                                       OUTLOOK

Gallaher's performance in the first half of 2004 demonstrated the benefits of
the Group's balanced portfolio of interests. Strong growth in certain key
European and CIS markets more than offset the difficult trading conditions in
France, Germany and Austria, as well as the negative effects of exchange rate
movements.

Overall Group trading remains in line with expectations. At earnings per share,
improved prospects in the UK - including accelerated benefits from the
restructuring programme - should broadly offset worsening conditions in
Continental Europe, notably the impact of the continued deterioration of the
branded cigarette market in Germany on the Group's vending operation.

                         LEGAL AND REGULATORY ENVIRONMENT

Regulation

The global tobacco market is subject to significant regulatory influence and/or
voluntary agreements. The Group has a long history of managing its business
successfully within a regulatory climate. In recent years, the Group has reduced
its susceptibility to regulatory changes in any single country by expanding its
international operations. However, it is possible that regulations in any of its
key markets could have an adverse effect on the Group's sales and operating
performance.

The World Health Organisation's Framework Convention on Tobacco Control is
currently awaiting ratification by member states. The tobacco control treaty
includes provisions governing, amongst other matters: advertising and
sponsorship; tax and price increases; labelling; illicit trade; and,
environmental tobacco smoke.

Within the EU, a directive concerning the manufacture, presentation and sale of
tobacco products was adopted in 2001 and has been implemented into EU member
states' national law. The EU is to report on the application of the directive
and indicate features that should be reviewed or developed in light of
developments in scientific or technical knowledge by the end of 2004. Also, the
EU Commission has adopted a decision that establishes the rules for the use of
colour photographs or other illustrations to depict and explain the health
consequences of smoking. It is for member states to decide whether or not to
introduce such pictorial health warnings from October 2004.

In June 2003, an EU directive relating to the advertising and sponsorship of
tobacco products was adopted. Member states shall comply with this directive by
31 July 2005 at the latest. The German government and others have commenced a
legal challenge to the directive in the European Court of Justice ("ECJ").

Certain EU member states have already enacted, or are considering, legislation
that restricts smoking in public places and the workplace including bars and
restaurants.

In May 2004, 10 additional European countries ("EU accession countries") joined
the EU. These countries are required to comply with the existing laws of the EU
at the time of joining except for certain transitional arrangements.

The EU constitution was adopted in June 2004, extending the competence of the EU
to establish tobacco related measures that have as their direct objective the
protection of public health.

The ECJ is considering the EU ban outside Sweden of certain oral tobacco
products (i.e., snus).

In the UK, the Tobacco Advertising and Promotion Act was adopted in 2002. The
Act prohibited sponsorship by tobacco companies from July 2003, although
transitional provisions allow an exemption for 'exceptional global events' until
July 2005. The Tobacco Advertising and Promotion (Point of Sale) Regulations
2004 will come into force on 21 December 2004 and significantly restrict the
size, format and content of tobacco advertisements that may be published at
point of sale and on tobacco vending machines. Gallaher and other companies are
challenging the regulations and a judicial review hearing is to be held in
October 2004.

In August 2003, the UK Office of Fair Trading ("OFT") notified Gallaher of an
enquiry into vertical agreements between manufacturers and retailers in the UK
cigarette, tobacco and tobacco related markets. Gallaher is co-operating with
the enquiry that remains at an information gathering stage. Given the early
stages of the enquiry, it is not possible to assess whether or not the OFT
intends to reach an adverse decision. Similarly, it is not possible, in the
event that an adverse decision is reached, to assess the extent (if any) of any
fines.

In the Republic of Ireland, the Public Health (Tobacco) (Amendment) Act 2004,
was signed into law in March 2004, purporting to give effect to two EU
directives and an EU recommendation relating to tobacco. The Act includes
provision for a comprehensive ban on tobacco advertising, sponsorship, measures
relating to the manufacture, presentation and sale of tobacco products, and a
ban on smoking in all public places with certain limited exceptions. Gallaher,
along with seven other plaintiffs, has begun legal proceedings which will
challenge certain parts of the Public Health (Tobacco) Act 2002 and the Public
Health (Tobacco) (Amendment) Act 2004. The case is likely to be heard in the
commercial court in 2005.

In Germany, the sale of cigarette packs of less than 17 cigarettes was
prohibited from July 2004. From 2007, cigarettes may only be bought from vending
machines which have youth protection technology installed (e.g., consumers will
have to verify their age by using age-encoded chip cards).

In the Netherlands, the government has introduced tobacco ingredient disclosure
regulations. In August 2003, Gallaher and Philip Morris International Management
SA and Philip Morris Holland BV commenced a joint legal challenge to the Dutch
regulations, which, Gallaher believes, do not provide adequate protection for
brand recipes. Other tobacco companies have also commenced legal proceedings.

The Swedish government approved a ban on smoking in public places (with certain
limited exceptions) on 12 May 2004. The ban will come into force on 1 June 2005.

In Russia, draft Bills have been introduced to the Russian State Duma whose
provisions include: significantly larger rotational health warnings; further
reductions in maximum tar and nicotine smoke yields; a complete ban on tobacco
advertising, with certain limited exceptions, and at point of sale; one in every
10 packs should have a special leaflet inserted with health information on
tobacco addiction; and, a ban on the sale of tobacco products within 100 metres
of educational establishments.

In the Ukraine, the parliament approved amendments to the Law on Advertising in
September 2003, restricting tobacco advertising in the printed media and
prohibiting it on television and radio. Furthermore, a draft law designed to
restrict tobacco consumption is due to have its second reading in 2005.

In Kazakhstan, outdoor tobacco advertising is to be prohibited from 1 October
2004. New and larger health warning requirements have been adopted from April
2004.

Tobacco taxation

In 2002, the EU adopted a directive increasing the minimum excise rates on all
tobacco products. The provisions also include the introduction of a minimum
excise burden of €60 per thousand cigarettes on the most popular price category
of cigarettes, which will increase to €64 per thousand cigarettes in July 2006.
For certain member states, transitional periods to comply with the new cigarette
rates are allowed by the directive. Additionally, a number of member states have
introduced a minimum excise duty, relating to the duty levied on cigarettes of
the most popular price category in each country.

EU accession countries will be required to implement significant duty increases
in order to comply with the minimum cigarette excise tax requirements. Many have
been allowed transitional periods - the longest until January 2010 - in which to
comply. Any relaxation of the current controls on personal imports from
accession states into existing EU states could have a significant negative
impact on sales in neighbouring countries in the transitional periods.

In the UK, tobacco duty was raised in line with inflation in March 2004. The
impact of high taxation in the UK cigarette market, resulting in high prices,
has led to reduced annual industry volumes, greater price competition and
trading down by consumers to lower-price cigarette brands. Gallaher believes
that the wide price differentials between the UK and Continental Western Europe
and other parts of the world have led to a smuggled market for legitimate and
counterfeit cigarettes and also an increase in legitimate cross-border trade.

The Group continues to support and endorse regulatory authorities' activities to
stop smuggling of tobacco products. Gallaher has a history of co-operation with
investigations into smuggling and readily exchanges relevant information with
the authorities on a regular basis.

In certain other European markets, excise duty increases continue to have an
impact on prices, sales and margins. These include large tax increases in
Ireland, Germany, France, Netherlands and changes in cigarette taxation in
Italy.

In Russia, the mixed tobacco excise system has been confirmed for 2005. The new
tobacco excise rates are: 65 roubles per 1,000 cigarettes plus 8% of factory
price (filter) and 28 roubles per 1,000 plus 8% (non-filter) but not less than
20% of the ex-factory price.

Litigation

Certain companies in the Group are currently defendants in actions in the UK and
the Republic of Ireland, where the plaintiffs are seeking damages for ailments
claimed to have resulted from tobacco use or exposure to tobacco smoke. As at 2
September 2004, Gallaher is involved as a defendant in four individual cases in
Scotland where plaintiffs seek damages for ailments claimed to have resulted
from tobacco use; three of these cases are dormant and the fourth, begun in May
2004 against Gallaher Limited and another tobacco company, is at a very early
stage and in any event has been stayed until January 2005.

In the Republic of Ireland, the number of individual claims against Group
subsidiaries is currently 13. Of the 152 claims that have been dismissed or
abandoned since 1997, to date 10 individual plaintiffs have appealed against
dismissal. A number of these appeals have been dismissed by the High Court, and
are being further appealed by the plaintiffs to the Supreme Court. Of the
remaining 13 claims, 12 statements of claim have been served upon Group
subsidiaries and other tobacco companies, making wide-ranging allegations
against such companies and against the Republic of Ireland, the attorney general
and the minister for health and children, who are also named as defendants in
some of those cases. Gallaher is not a party to smoking litigation anywhere else
in the world.

It is not possible to predict the outcome of the pending litigation and whilst
there can be no guarantees Gallaher believes that there are meritorious defences
to these actions and claims and that the pending actions will not have a
material adverse effect upon the results of the operations, the cash flow or
financial condition of the Group. The pending actions and claims will be
vigorously contested.

Liggett-Ducat continues to be involved in court processes relating to payments
allegedly due for unpaid penalties and fines claimed by the Russian tax
authorities. As at 2 September 2004, the challenges that have been made to the
claims have been successful. Based upon the facts and matters currently known,
management considers that there are meritorious defences against these actions
and that they will be vigorously defended.

                                      
                               Gallaher Group Plc
                         Group profit and loss account
                         SIX MONTHS ENDED 30 JUNE 2004

                               Six months           Six months         Year 
                                 ended                 ended           ended
                               30 June               30 June          31 Dec.
                                 2004                  2003            2003
                          US$m *            £m              £m              £m

Turnover of
the Group
including its
share of joint
ventures and
associate                8,476           4,673           4,325           9,048
Less share of
turnover of
joint ventures
and associate           (1,304)           (719)           (502)         (1,055)
                 -------------   -------------   -------------   -------------
Group turnover           7,172           3,954           3,823           7,993
                 -------------   -------------   -------------   -------------

Group
operating
profit before
exceptional
charge                     472             260             264             539
Exceptional
charge                     (16)             (9)            (38)            (39)
                 -------------   -------------   -------------   -------------
Group
operating
profit                     456             251             226             500
Share of
operating
profits of
joint ventures
and associate               16               9               -               5
                   ------------   -------------   -------------   -------------
Total
operating
profit                     472             260             226             505
Net interest
and other
financing
charges                   (114)            (63)            (67)           (131)
Net retirement
benefits
financing
income                       5               3               3               5
                 -------------   -------------   -------------   -------------
Total net
interest and
other finance
charges                   (109)            (60)            (64)           (126)
                 -------------   -------------   -------------   -------------
Profit on
ordinary
activities
before
taxation                   363             200             162             379
Tax on profit
on ordinary
activities                (116)            (64)            (57)           (126)
                 -------------   -------------   -------------   -------------
Profit on
ordinary
activities
after taxation             247             136             105             253
Equity
minority
interests                   (4)             (2)             (3)             (6)
                 -------------   -------------   -------------   -------------
Profit for the
financial
period                     243             134             102             247
Dividends                 (118)            (65)            (62)           (193)
                 -------------   -------------   -------------   -------------
Retained
profit for the
period                     125              69              40              54
                 -------------   -------------   -------------   -------------
Earnings per
ordinary share
- Adjusted (a)           50.4c           27.8p           26.6p           55.5p
- Basic                  37.4c           20.6p           15.7p           38.0p
- Diluted                37.4c           20.6p           15.6p           37.9p
Dividends per
ordinary share
- Interim                18.1c           10.0p           9.45p
- Total for 2003                                                         29.6p
                                                                      

There is no difference between the profit on ordinary activities before taxation
and the retained profit for the financial period stated above and their
historical cost equivalents. Turnover and operating results relate to continuing
operations.

(a) Before intangible asset amortisation and exceptional charge (net of tax).

* US dollar equivalents are provided for reader convenience at the 30 June 2004
exchange rate of £1:US$1.814.

                               

                               Gallaher Group Plc
                              Group balance sheet
                                AT 30 JUNE 2004

                              30 June                  30 June         31 Dec.
                                2004                     2003            2003
                                                       (restated)      (restated)
                          US$m *            £m              £m              £m
Fixed assets
Intangible
assets                   2,384           1,314           1,411           1,399
Tangible
assets                   1,063             586             588             595
Investments:
Investment in
joint ventures              11               6               4               6
Investment in
associate                  190             105             111             112
Other
investments                 16               9              13              11
                 -------------   -------------   -------------   -------------
                           217             120             128             129
                 -------------   -------------   -------------   -------------
                         3,664           2,020           2,127           2,123
                 -------------   -------------   -------------   -------------
Current assets
Stocks                   1,315             725             706             504
Debtors                  1,420             783             759             783
Non-liquid
investments                  4               2               1               1
Cash and
liquid
investments              1,217             671             140             116
                 -------------   -------------   -------------   -------------
                         3,956           2,181           1,606           1,404
Creditors:
amounts falling
due within one
year
Borrowings              (1,388)           (765)           (159)           (139)
Other                   (2,595)         (1,431)         (1,147)         (1,117)
                 -------------   -------------   -------------   -------------
                        (3,983)         (2,196)         (1,306)         (1,256)
                 -------------   -------------   -------------   -------------
Net current
(liabilities)/
assets                     (27)            (15)            300             148
                 -------------   -------------   -------------   -------------
Creditors:
amounts falling
due after more
than one year
Borrowings              (3,820)         (2,106)         (2,563)         (2,429)
Other                       (9)             (5)             (6)             (5)
                 -------------   -------------   -------------   -------------
                        (3,829)         (2,111)         (2,569)         (2,434)
Provisions for
liabilities
and charges                (94)            (52)            (74)            (53)
Net retirement
benefits
liability                 (109)            (60)            (79)            (68)
                 -------------   -------------   -------------   -------------
Net
liabilities               (395)           (218)           (295)           (284)
                 -------------   -------------   -------------   -------------
Capital and
reserves
Called up
share capital              118              65              65              65
Share premium
account                    229             126             117             125
Capital
redemption
reserve                     15               8               8               8
Merger reserve             265             146             146             146
Other reserve           (1,654)           (911)           (911)           (911)
Profit and
loss account
(including
retirement
benefits reserve)          579             319             251             252
                 -------------   -------------   -------------   -------------
Equity
shareholders'
deficit                   (448)           (247)           (324)           (315)
Equity
minority
interests                   53              29              29              31
                 -------------   -------------   -------------   -------------
                          (395)           (218)           (295)           (284)
                 -------------   -------------   -------------   -------------

* US dollar equivalents are provided for reader convenience at the 30 June 2004
exchange rate of £1:US$1.814.

                             

                               Gallaher Group Plc
                 Statement of total recognised gains and losses
                         SIX MONTHS ENDED 30 JUNE 2004

                              Six months            Six months          Year
                                ended                 ended            ended
                              30 June                30 June           31 Dec.
                                2004                   2003             2003
                          US$m *            £m              £m              £m

Profit for the
financial
period                     243             134             102             247
Actuarial loss
recognised on
retirement
benefits                     -               -               -              (4)
Movement on
deferred tax
relating to
actuarial loss
on                           
retirement
benefits                     -               -               -               1
Exchange
adjustments on
foreign
currency net                
investments                 (4)             (2)              1              (4)
                 -------------   -------------   -------------   -------------
Total
recognised
gains and
losses in the
period                     239             132             103             240
                 -------------   -------------   -------------   -------------

          Reconciliation of movements in equity shareholders' deficit
                         SIX MONTHS ENDED 30 JUNE 2004

                               Six months             Six months         Year 
                                 ended                   ended           ended 
                               30 June                  30 June          31 Dec. 
                                 2004                    2003             2003
                                                      (restated)       (restated)
                          US$m *            £m              £m              £m

Profit for the
financial
period                     243             134             102             247
Dividends                 (118)            (65)            (62)           (193)
Credit/(debit)
in respect of
employee share
schemes                      -               -               2              (3)
Actuarial loss
recognised on
retirement
benefits                     -               -               -              (4)
Movement on
deferred tax
relating to
actuarial loss               
on retirement
benefits                     -               -               -               1
Exchange
adjustments on
foreign
currency net                
investments                 (4)             (2)              1              (4)
Issue of
ordinary
shares                       2               1               -               8
                 -------------   -------------   -------------   -------------
Net movement
in equity
shareholders'
deficit                    123              68              43              52
Opening equity
shareholders'
deficit -
previously                
reported                  (557)           (307)           (362)           (362)
Prior year
adjustment                 (14)             (8)             (5)             (5)
Opening equity
shareholders'
deficit                   (571)           (315)           (367)           (367)
                 -------------   -------------   -------------   -------------
Closing equity
shareholders'
deficit                   (448)           (247)           (324)           (315)
                 -------------   -------------   -------------   -------------

* US dollar equivalents are provided for reader convenience at the 30 June 2004
exchange rate of £1:US$1.814.

                                   
                               Gallaher Group Plc
                           Group cash flow statement
                         SIX MONTHS ENDED 30 JUNE 2004

                               Six months             Six months         Year 
                                 ended                   ended           ended
                                30 June                 30 June          31 Dec.
                                  2004                    2003            2003   
                                                       (restated)      (restated)
                          US$m *            £m              £m              £m

Net cash
inflow from
operating
activities                 785             433             280             691
Dividends
received from
associate and
joint ventures              13               7               9              14
Returns on
investments
and servicing
of finance                 (76)            (42)            (51)           (131)
Taxation                   (63)            (35)            (41)            (99)
Capital
expenditure
and financial
investment                (100)            (55)            (62)           (117)
Acquisitions
and disposals               (5)             (3)             (1)            (15)
Equity cash
dividends paid            (238)           (131)           (122)           (183)
                 -------------   -------------   -------------   -------------
Net cash
inflow before
management of
liquid                     
resources and
financing                  316             174              12             160
Management of
liquid
resources                    9               5              (2)             (2)

Increase/(decrease)
in debt                    646             356              28            (113)
Purchase of
ordinary
shares                      (2)             (1)              -              (1)
Issue of
ordinary
shares                       2               1               -               3
                 -------------   -------------   -------------   -------------
Financing                  646             356              28            (111)
                 -------------   -------------   -------------   -------------
Increase in
net cash in
the period                 971             535              38              47
                 -------------   -------------   -------------   -------------

 Reconciliation of operating profit to net cash flow from operating activities
                         SIX MONTHS ENDED 30 JUNE 2004

                               Six months            Six months        Year 
                                 ended                 ended           ended
                                30 June              30 June          31 Dec.
                                  2004                 2003            2003
                          US$m *            £m              £m             £m

Group
operating
profit before
exceptional
charge                     472             260             264             539
Depreciation
of tangible
fixed assets                73              40              41              83
Amortisation
of intangible
fixed assets                69              38              38              77
Non-cash
charge in
respect of
employee share               
schemes                      2               1               1               3
(Profit)/loss
on sale of
tangible fixed
assets                      (4)             (2)              -               1
(Increase)/decrease
in debtors                 (31)            (17)             48              22
Increase in
stocks                    (423)           (233)           (221)            (15)
Increase in
creditors and
provisions                 651             359             113              17
Decrease in
net retirement
benefits
liability                  (15)             (8)             (4)            (15)
                 -------------   -------------   -------------   -------------
Net cash
inflow from
operating
activities
before                     
exceptional
charge                     794             438             280             712
Cash outflow
relating to
exceptional
charge                      (9)             (5)              -             (21)
                 -------------   -------------   -------------   -------------
Net cash
inflow from
operating
activities                 785             433             280             691
                 -------------   -------------   -------------   -------------

* US dollar equivalents are provided for reader convenience at the 30 June 2004
exchange rate of £1:US$1.814.

                                    

                               Gallaher Group Plc
            Reconciliation of net cash flow to movement in net debt
                         SIX MONTHS ENDED 30 JUNE 2004

                           Six months           Six months          Year 
                             ended                ended            ended
                            30 June              30 June           31 Dec.
                              2004                 2003              2003
                        US$m *            £m             £m              £m

Increase in
net cash in
the period               971             535              38              47
Cash flow from
(decrease)/
increase in
liquid                    
resources                 (9)             (5)              2               2
Cash flow from
(increase)/
decrease in debt        (646)           (356)            (28)            113
               -------------   -------------   -------------   -------------
Change in net
debt resulting
from cash
flows                    316             174              12             162
Exchange
adjustments              141              78            (101)           (121)
               -------------   -------------   -------------   -------------
Decrease/
(increase) in 
net debt in
the period               457             252             (89)             41
Opening net
debt                  (4,448)         (2,452)         (2,493)         (2,493)
               -------------   -------------   -------------   -------------
Closing net
debt                  (3,991)         (2,200)         (2,582)         (2,452)
               -------------   -------------   -------------   -------------

* US dollar equivalents are provided for reader convenience at the 30 June 2004
exchange rate of £1:US$1.814.

                                        
                               Gallaher Group Plc
                     Segmental information (by destination)
                         SIX MONTHS ENDED 30 JUNE 2004

                            Six months            Six months         Year 
                               ended                ended            ended
                              30 June              30 June           31 Dec.
                                2004                 2003             2003
                          US$m *            £m              £m              £m
Total turnover
UK                       3,361           1,853           1,758           3,611
Continental
Europe                   4,379           2,414           2,162           4,534
CIS                        310             171             164             373
Rest of World              426             235             241             530
                 -------------   -------------   -------------   -------------
                         8,476           4,673           4,325           9,048
                 -------------   -------------   -------------   -------------
Duty
UK                       2,843           1,567           1,473           3,033
Continental
Europe                   1,716             946             887           1,897
CIS                         82              45              34              78
Rest of World              317             175             179             399
                 -------------   -------------   -------------   -------------
                         4,958           2,733           2,573           5,407
                 -------------   -------------   -------------   -------------
Total operating
profit
UK
- before
amortisation
of intangible
assets and                
exceptional
charge                     268             148             143             287
- amortisation
of intangible
assets                      (2)             (1)             (1)             (2)
- exceptional
charge                      (9)             (5)            (17)            (18)
                 -------------   -------------   -------------   -------------
                           257             142             125             267
Continental
Europe
- before
amortisation
of intangible
assets and                 
exceptional
charge                     218             120             123             243
- amortisation
of intangible
assets                     (63)            (35)            (35)            (71)
- exceptional
charge                      (7)             (4)             (1)             (3)
                 -------------   -------------   -------------   -------------
                           148              81              87             169
CIS
- before
amortisation
of intangible
assets                      27              15              14              44
- amortisation
of intangible
assets                      (9)             (5)             (5)            (10)
                 -------------   -------------   -------------   -------------
                            18              10               9              34
Rest of World
- before
exceptional
charge                      49              27              25              53
- exceptional
charge                       -               -             (20)            (18)
                 -------------   -------------   -------------   -------------
                            49              27               5              35
Total
- before
amortisation
of intangible
assets and                 
exceptional
charge                     562             310             305             627
- amortisation
of intangible
assets                     (74)            (41)            (41)            (83)
- exceptional
charge                     (16)             (9)            (38)            (39)
                 -------------   -------------   -------------   -------------
                           472             260             226             505
                 -------------   -------------   -------------   -------------

* US dollar equivalents are provided for reader convenience at the 30 June 2004
exchange rate of £1:US$1.814.
    
                        Notes to the interim statements

1. Basis of preparation of the accounts

The interim report has been prepared using accounting policies consistent with
those of Gallaher Group Plc for the year ended 31 December 2003, except for the
restatement following a change in accounting policy as described in note 2
below. The accounts for the six months to 30 June 2004, and those for the
comparative period, are unaudited, but have been reviewed by the auditors. The
review report of the auditors follows the notes to the interim statements. The
figures for the year ended 31 December 2003 are an abridged version of the
Group's published financial statements for that year which contain an
unqualified audit report and which have been filed with the registrar of
companies.

2. Changes in accounting policy and presentation

The 2003 half year and full year results have been restated following the
adoption of UITF Abstract 17 (Revised 2003) 'Employee Share Schemes' and UITF
Abstract 38 'Accounting for ESOP Trusts'. Shares held by the employee benefit
trust, previously shown in the balance sheet as fixed asset investments, are now
required to be shown as a deduction from shareholders' funds. The cost of
employee share schemes is charged to the profit and loss account using the
quoted market price of shares at the date of grant less the exercise price of
the share options granted. The charge is accrued over the vesting period of the
shares. There is an exemption from making such a charge for the Inland Revenue
approved SAYE schemes and equivalent overseas schemes.

The impact was to reduce investments by £3m at 30 June 2003 and by £8m at 31
December 2003, and increase the deficit in the profit and loss account reserve
by corresponding amounts.

The consolidated cash flow statement has been restated to reflect the
reallocation of the cash payments relating to the purchase of shares of £1m for
the year ended 31 December 2003 from 'capital expenditure and financial
investment' to 'financing'.

The consolidated profit and loss accounts for the six months ended 30 June 2003
and the year ended 31 December 2003 have not been restated as the effect in any
one period is not material. The impact of the change in accounting policy in the
six months to 30 June 2004 on profit after taxation is not material.

3. Exceptional charge

Following Gallaher's announcement of its European operations and administration
restructuring, an exceptional charge of £39m was included in the results for the
year ended 31 December 2003. An additional charge of £9m associated with this
programme has been included in the results for the six months ended 30 June
2004. The tax credit associated with the 2004 exceptional charge is £3m. The
restructuring charge primarily relates to redundancy costs and the impairment of
operational plant and machinery.

4. Taxation

The tax charge for the six-month periods have been calculated using a forecast
of the effective tax rate for each full year, adjusted for the effect of
significant events arising in each six-month period.

5. Retirement benefits

The net retirement benefits liability shown in the balance sheet is the amount
calculated as at 31 December 2003, adjusted for contributions, charges and
finance income in the period. No interim revaluation of the assets and
liabilities of the retirement benefit schemes has been carried out to 30 June
2004 and accordingly, there is no actuarial gain or loss shown in the statement
of total recognised gains and losses in respect of the half year. The figures
for the gains and losses and the surplus/deficit for the year to 31 December
2004 will be presented in the annual report to 31 December 2004.

6. Earnings per share

Basic and adjusted earnings per ordinary share are calculated using the weighted
average number of ordinary shares outstanding during the period. Diluted
earnings per share have been calculated by taking into account the weighted
average number of shares that would be issued on conversion into ordinary shares
of options held under the employee sharesave scheme.

                               Six months         Six months             Year 
                                 ended              ended                ended
                              30 June 2004       30 June 2003         31 Dec. 2003  
Earnings per share
(pence):
Basic                               20.6               15.7               38.0
Adjustment for
exceptional charge
(net of tax)                         0.9                4.7                4.8
Adjustment for
intangible asset
amortisation                         6.3                6.2               12.7
                        ----------------   ----------------   ----------------
Adjusted                            27.8               26.6               55.5
Diluted                             20.6               15.6               37.9
                        ----------------   ----------------   ----------------
Earnings (£m):
Basic                                134                102                247
Adjustment for
exceptional charge
(net of tax)                           6                 30                 31
Adjustment for
intangible asset
amortisation                          41                 41                 83
                        ----------------   ----------------   ----------------
Adjusted earnings                    181                173                361
                        ----------------   ----------------   ----------------
Weighted average number
of shares (m):
Ordinary shares in
issue                              653.7              651.6              651.8
Shares held by
employee share trusts               (2.2)              (1.7)              (1.8)
                        ----------------   ----------------   ----------------
Shares used in the
calculation of basic
and adjusted earnings
per share                          651.5              649.9              650.0
Potentially dilutive
share options                        1.7                1.7                1.7
                        ----------------   ----------------   ----------------
Shares used in the
calculation of
diluted earnings per
share                              653.2              651.6              651.7
                        ----------------   ----------------   ----------------
                                
                               Gallaher Group Plc
                Independent review report to Gallaher Group Plc

Introduction

We have been instructed by the company to review the financial information,
which comprises the profit and loss account, the balance sheet, the cash flow
statement, the statement of total recognised gains and losses and the related
notes. We have read the other information contained in the interim report and
considered whether it contains any apparent misstatements or material
inconsistencies with the financial information.

Directors' responsibilities

The interim report, including the financial information contained therein, is
the responsibility of, and has been approved by the directors. The directors are
responsible for preparing the interim report in accordance with the Listing
Rules of the Financial Services Authority which require that the accounting
policies and presentation applied to the interim figures should be consistent
with those applied in preparing the preceding annual accounts except where any
changes, and the reasons for them, are disclosed.

Review work performed

We conducted our review in accordance with guidance contained in Bulletin 1999/4
issued by the Auditing Practices Board for use in the United Kingdom. A review
consists principally of making enquiries of group management and applying
analytical procedures to the financial information and underlying financial data
and, based thereon, assessing whether the accounting policies and presentation
have been consistently applied unless otherwise disclosed. A review excludes
audit procedures such as tests of controls and verification of assets,
liabilities and transactions. It is substantially less in scope than an audit
performed in accordance with United Kingdom Auditing Standards and therefore
provides a lower level of assurance than an audit. Accordingly we do not express
an audit opinion on the financial information. This report, including the
conclusion, has been prepared for and only for the company for the purpose of
the Listing Rules of the Financial Services Authority and for no other purpose.
We do not, in producing this report, accept or assume responsibility for any
other purpose or to any other person to whom this report is shown or into whose
hands it may come save where expressly agreed by our prior consent in writing.

Review conclusion

On the basis of our review we are not aware of any material modifications that
should be made to the financial information as presented for the six months
ended 30 June 2004.

PricewaterhouseCoopers LLP
Chartered Accountants
London
7 September 2004

Notes:

(a) The maintenance and integrity of the Gallaher Group Plc website is the
responsibility of the directors; the work carried out by the auditors does not
involve consideration of these matters and, accordingly, the auditors accept no
responsibility for any changes that may have occurred to the interim report
since it was initially presented on the website.

(b) Legislation in the United Kingdom governing the preparation and
dissemination of financial information may differ from legislation in other
jurisdictions.
                               Gallaher Group Plc
     Differences between UK and US generally accepted accounting principles
                         SIX MONTHS ENDED 30 JUNE 2004

The Group prepares its financial statements in accordance with generally
accepted accounting principles in the United Kingdom ("UK GAAP") which differ
from those generally accepted in the United States ("US GAAP"). The following
statements summarise the adjustments reconciling profit on ordinary activities
after taxation and equity shareholders' deficit under UK GAAP to the amounts
reported had US GAAP been applied in respect of the six months ended 30 June
2004.

                                                               2004            2004
                                             Notes             US$m*             £m
  Profit for the half year ended 30 June
  2004
  Profit for the half year ended 30 June
  2004 as reported in the Group profit 
  and loss account under UK GAAP                                243             134
  Pension costs                               (a)                (7)             (4)
  Long-term incentive plans                   (c)                (5)             (3)
  Savings related share option scheme         (d)                (2)             (1)
  Mark to market adjustments on derivatives   (e)               (16)             (9)
  Business combination - goodwill             (f)                65              36
  Intangible asset amortisation               (f)               (15)             (8)
  European operations restructuring           (g)                 3               2
  Deferred tax on adjustments                                     9               5
                                                      -------------   -------------
  Net income under US GAAP                                      275             152
                                                      -------------   -------------

Equity shareholders' deficit
Equity shareholders' deficit as reported
in the restated Group balance sheet under                                             
UK GAAP                                                        (448)           (247)
Pension costs                                 (a)                44              24
Capitalised interest                          (b)                 7               4
Mark to market adjustments on derivatives     (e)               (49)            (27)
Business combination - goodwill               (f)               323             178
Intangible asset amortisation                 (f)               (85)            (47)
European operations restructuring             (g)                 7               4
Deferred taxation on adjustments                                 16               9
Proposed dividend                             (h)               118              65
                                                      -------------   -------------
Equity shareholders' deficit under US GAAP                      (67)            (37)
                                                      -------------   -------------

* US dollar equivalents are provided for reader convenience at the 30 June 2004
exchange rate of £1:US$1.814.

Notes:

(a) Pension costs

Under UK GAAP, pension costs are determined in accordance with the UK Financial
Reporting Standard FRS 17. The pension asset or liability in the balance sheet
represents the difference between the market value of the pension scheme assets
at the balance sheet date and the present value of the pension scheme
liabilities at that date, net of deferred tax. Actuarial gains and losses of the
plan are recognised immediately in the 'Statement of total recognised gains and
losses' and prior service costs are recognised in full in the period they become
vested.

Under US GAAP, pension costs are determined in accordance with the requirements
of the Statements of Financial Accounting Standards (FAS) 87, 88 and 106. US
GAAP requires valuation of plan assets to be based on their fair value at the
date of the financial statements and plan obligations to be based on assumed
discount rates in accordance with plan objectives at that date. The effect of
changes in experience on actuarial calculations is not recognized immediately as
in the UK but rather, when they exceed a 10% corridor and are amortised over the
remaining expected service lives of employees. In addition, any prior service
costs are amortised over the remaining service lives of applicable employees.

(b) Capitalised interest

Under US GAAP, interest incurred as part of the cost of constructing fixed
assets is capitalised and amortised over the lives of the qualifying assets in
accordance with FAS 34. In accordance with common UK practice, Gallaher does not
capitalise such interest in its financial statements.

(c) Long-term incentive plans

Under US GAAP, the estimated intrinsic value of the benefits accruing to
individuals during the period from share awards held by the employee benefit
trust to satisfy rights to shares arising from Gallaher's long-term share
incentive plans, is remeasured each reporting period and charged to the income
statement over the remaining vesting period of the share awards. Under UK GAAP
the intrinsic value charged to the income statement over the vesting period is
measured at the date of the grant.

(d) Savings related share option scheme

Under UK GAAP, the Company is not required to charge to the profit and loss
account any benefits accruing to individuals under its savings related share
option scheme. Under US GAAP, the difference between the share price at the date
of the option grant and the option exercise price, must be charged to the income
statement over the options' vesting period, being three, five or seven years.

(e) Derivative financial instruments

Under UK GAAP, derivative financial instruments that reduce exposures on
anticipated future transactions may be accounted for using hedge accounting.
Under US GAAP, FAS 133 requires that all derivatives be recorded on the balance
sheet at fair value and changes in the fair values be recognised immediately in
earnings where specific hedge accounting criteria are not met. The Group has
decided not to satisfy the FAS 133 requirements to achieve hedge accounting,
where permitted and as such all changes in fair value are recognised immediately
in earnings.

(f) Business combinations - goodwill and intangible asset amortisation

Both UK and US GAAP require purchase consideration to be allocated to the net
assets acquired at their fair value on the date of acquisition. Under UK GAAP,
goodwill arising, and separately identifiable and separable intangible assets
acquired on acquisition are capitalised and amortised over their estimated
useful lives.

Under US GAAP goodwill arising and identifiable intangible assets have been
capitalised in accordance with FAS 141. Gallaher has not identified any
indefinite-lived intangible assets. The identifiable definite-lived intangible
assets are being amortised over their estimated useful lives. In accordance with
FAS 142 goodwill is no longer amortised but is tested annually for impairment.

(g) Accounting for costs associated with European operations restructuring

In July 2002, the FASB issued FAS 146, 'Accounting for Costs Associated with
Exit or Disposal Activities'. This standard requires the Company to recognise
certain costs associated with disposal activities when they are incurred, rather
than at the date of a commitment to a disposal plan. FRS 12 the equivalent UK
standard requires that similar costs are provided for on a commitment basis. As
a result of Gallaher's European operations restructuring the Company has
provided for certain involuntary termination benefits, voluntary termination
benefits, and contract-termination costs which are not yet eligible under FAS
146.

(h) Ordinary dividends

Under UK GAAP, ordinary dividends are provided in the financial statements in
the period in which they are proposed by the board for approval by the
shareholders. Under US GAAP, dividends are not provided for until declared.
                         
                               Gallaher Group Plc

                              Cautionary statement

This announcement includes 'forward-looking statements' within the meaning of
the US securities laws. All statements other than statements of historical fact
included in this announcement, including, without limitation, statements
regarding Gallaher's future financial position, strategy, impact of market
trends and price increases, dividend policy, exchange rates, anticipated
investments, projected sales, costs and results (including growth prospects in
particular regions), plans, projects to enhance efficiency, impact of
governmental regulations or actions, litigation outcomes and timetables, the
successful integration of acquisitions and joint ventures into our Group,
objectives of management for future operations and effects of restructuring
activities, may be deemed to be forward-looking statements. Although Gallaher
believes that the expectations reflected in such forward-looking statements are
reasonable, it can give no assurance that such expectations will prove to have
been correct. We undertake no obligation to publicly update or revise any
forward-looking statements, whether as a result of new information, future
events or otherwise. Important factors could cause actual results to differ
materially from Gallaher's expectations including, without limitation, changes
in general economic, political or commercial conditions, foreign exchange rate
fluctuation, interest rate fluctuations (including those from any potential
credit rating decline), competitive product and pricing pressures, the impact of
excise tax increases, regulatory developments, the uncertainties of litigation,
difficulties in integrating acquisitions and joint ventures, production or
distribution disruptions, difficulty in managing growth, declining demand for
tobacco products, increasing dependence on sales in the CIS and other emerging
markets, changes in the supply of tobacco and non-payment of receivables by our
distributors as well as other uncertainties detailed from time to time in
Gallaher's public filings and announcements. The risks included here are not
exhaustive. Moreover, we operate in a very competitive and rapidly changing
environment. New risk factors emerge from time to time and it is not possible
for us to predict all such risk factors on our business or the extent to which
any factor, or combination of factors, may cause actual results to differ
materially from those contained in any forward-looking statements. Given these
risks and uncertainties, investors should not place undue reliance on
forward-looking statements as a prediction of actual results.

Definitions

The terms 'Gallaher' and 'Group' refer to Gallaher Group Plc and its
subsidiaries. The term 'Liggett-Ducat' refers to the Liggett-Ducat group of
companies. The term 'ATG' refers to Tobaccoland Automatengesellschaft mbH & Co
KG. The term 'Lekkerland-Tobaccoland' refers to Lekkerland-Tobaccoland GmbH & Co
KG. The term 'Lekkerland Europa' refers to Lekkerland-Europa Holding GmbH. The
term 'TOBA' refers to Tobaccoland Austria (Tobaccoland Handels GmbH). The term
'KT Merkury' refers to Kompania Tytoniowa Sp.z.o.o. The term 'Reynolds American'
refers to Reynolds American, Inc. The terms 'RGI' and 'Reynolds-Gallaher
International' refer to the joint venture company, R.J. Reynolds-Gallaher
International SARL. The term 'Shanghai Tobacco Group' refers to the Shanghai
Tobacco (Group) Corp.

                              
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            The company news service from the London Stock Exchange