Gallaher on Monday secured a foothold in the world's largest cigarette market after signing a licensing agreement with China's Shanghai Tobacco Group.

As part of the deal in return for using Shanghai Tobacco's factories to manufacture and sell Gallaher's Memphis brand in China, Shanghai Tobacco will use Gallaher's Russian operations to make and sell its Golden Deer brand in Russia.

China is an especially attractive market, as global consumption is dropping at a rate of about 1 per cent a year. An estimated 300m Chinese smoke, more than 60 per cent of adult men and a small but growing percentage of women. The market also has potential to grow further, as there are few high-profile public health measures in place to dampen demand.

The two group's will launch their products in the first half of 2004. They will initially be sold in the Shanghai and Moscow areas.

Nigel Northridge, Gallaher chief executive, said the group already had a presence in China through its imported brand Sobraine, but that it was very small.

"That's why this is so significant for us, to be onshore, to not have to build a factory and to have an agreement with the government's monopoly," he said.

Although the agreement gives Gallaher access to some of China's 350m smokers, the company has played down the significance of a deal.

Mr Northridge, has made it clear that group is not expecting either high volumes or significant profits from the agreement.

Analysts were also viewing the agreement as mainly symbolic given that Gallaher will only be selling about 100m cigarettes a year in a market where consumption is 1,700bn annually.

Martin Steinik of JP Morgan said: "This is unlikely to have an immediate impact on the bottom line."

But analysts agreed it was strategically important, both in terms of future volumes and market perception. "China is the great hope that can lift organic growth so any progress will be seen quite positively. Who ever wins in China wins the game," said Mr Steinik.

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