UPDATE 3-Japan Tobacco says cigarette price hike an option

(Recasts lead, adds details, closing share price)

By Elaine Lies

TOKYO, May 9 (Reuters) - Japan Tobacco Inc (2914.T), the world's No. 3 tobacco maker, said it may raise the price of domestic cigarettes -- its first non-tax linked hike in 15 years -- to help offset nine straight years of a shrinking market.

The increase would come on top of rises in everything from gasoline to beer and noodles that have already burdened consumers in the world's second-largest economy.

Japan Tobacco, which is half-owned by the Japanese government, has seen costs rise even as it grapples with an ageing population and widening health consciousness that have reduced the ranks of smokers.

It is also suffering from the yen's surge against the dollar and fallout from a food scare earlier this year involving pesticide-contaminated dumplings it imported from China.

"First we want to try to reduce our costs, then we want to shift customers to higher-priced, value-added products," spokeswoman Yukiko Seto said on Friday .

"After that, we might consider that sort of thing (raising prices)," she added, confirming a Nikkei business daily story quoting Japan Tobacco President Hiroshi Kimura as saying price hikes were an option.

If the company raises cigarette prices, it will be the first time since 1993 that a price increase has not been linked to taxes. Japan Tobacco makes Mild Seven cigarettes and owns the Camel, Winston and Salem brands outside of the United States.

A pack of Mild Seven currently costs 300 yen ($2.89), while other brands such as Marlboro set smokers back around 320 yen -- a far cry from the 5.66 pounds ($11.07) a pack costs in Britain.

Key among rising costs the company faces is that for leaf tobacco, some 60 percent of which is imported. It is also taking a hit for more expensive materials due to a packaging change.

While Japan Tobacco remains dominant at home with a 64.9 percent market share, the market itself continues to shrink in a nation that was once a paradise for smokers.

The ratio of Japanese adults who smoke has slipped to 26 percent from 34 percent a decade ago and a peak of 49 percent in 1966.

Japan Tobacco's Seto said it was far too early to say how large any rises might be, but analysts said any negative impact was likely to be minimal even given a general rise in consumer prices that has hit petrol and food costs.

Investors agreed, sending Japan Tobacco shares up more than 5 percent at one point on Friday. Shares closed up 3.8 percent despite a 2.1 percent fall in the benchmark Nikkei .N225 share average.

"Any rise in prices would be a plus for the company because their profits would increase, and while the amount of cigarettes smoked might drop a bit, the profit rise would offset this," said Tokushi Yamasaki, an analyst at Daiwa Institute of Research.

"An increase of only 10 yen a pack could have an impact of roughly 8 billion yen ($77 million)," he said.

"Of course, if the price went up to 500 yen that would have a negative impact."

Japan Tobacco last week booked a 9 percent gain in quarterly operating profit on expanding sales outside its shrinking home market, but forecast a 28 percent fall this year due to an accounting change, its first drop in eight years.

The company has been eagerly turning its eyes overseas, looking towards new markets opened by its acquisition of Britain's Gallaher Group last year for about $15 billion.

This helped expand its core markets to 19. It is heavily involved in Eastern Europe, Russia, the Ukraine and Kazakhstan but still has only a very small presence in the potentially giant markets of China and India.

Overseas business more than doubled its operating profit to 205.3 billion yen, while profit from domestic operations slipped 9 percent to 222 billion yen.

Shares in Japan Tobacco have lost 26 percent from the start of 2008 to Friday's close. The benchmark Nikkei average .N225 lost 11 percent during the same period. ($1=.5115 Pound, $1=103.75 Yen) (Additional reporting by Sachi Izumi; Editing by Michael Watson and Chris Gallagher)