11 November 2014
Update | Sector: Consumer
ITC
BSE Sensex
27,910
S&P CNX
8,363
CMP: INR364
TP: INR425
Buy
Stock Info
Bloomberg
Equity Shares (m)
52-Week Range (INR)
1, 6, 12 Rel. Per (%)
M.Cap. (INR b)
M.Cap. (USD b)
Karnataka
plans ban
on sale of loose Cigarettes and
smokeless tobacco
ITC IN
7,980.7
387/308
7/-26/-44
2,903.0
47.1
Policy environment hardens for players
Financial Snapshot (INR Billion)
Y/E Mar
2015E 2016E 2017E
Net Sales
374.2 429.1 489.5
EBITDA
Adj PAT
EPS (INR)
Growth (%)
BV/Share
( )
RoE (%)
RoCE (%)
P/E (x)
P/BV (x)
141.3 162.8 187.0
100.7 116.9 134.8
12.7
14.6
35.8
35.4
49.0
28.1
9.9
14.7
16.1
38.4
38.3
53.2
24.2
9.2
16.9
15.3
41.5
40.9
57.0
21.0
8.6
Shareholding pattern (%)
As on
Sep-14 Jun-14 Sep-13
Promoter
0.0
0.0
0.0
DII
34.8
35.0
34.3
FII
20.5
19.5
19.6
Others
44.6
45.5
46.1
Note: FII Includes depository receipts
Stock Performance (1-year)
Karnataka plans ban on loose cigarettes sales (as per media reports):
Pursuant to the Union Ministry of Health & Family Welfare’s request, the
Karnataka government is planning to impose a ban on the sale of loose
cigarettes and smokeless tobacco based on complaints that increased school
and college students are getting addicted to smoking. This will be the first-
ever instance of a state government banning sale of cigarettes in any format.
Over the past 24 months, state governments had imposed a ban on Gutka,
Pan Masala and other forms of smokeless tobacco.
Impact on ITC:
In India, ~73% of cigarettes are sold in loose format.
Karnataka contributes ~9-10% of volumes for ITC, in our view, and thus the
ban on loose cigarettes will impact cigarette volumes.
Counter measures:
However, if ITC launches cigarettes in smaller pack sizes
of say 2/3/5 sticks, the impact on volumes would be cushioned, in our view.
Currently, there is no law which prevents cigarette manufacturers from
launching the product in smaller pack sizes. We note that ITC has, in the past,
sold cigarettes in pack sizes lesser than 10. However, it will create more
disruption for the Cigarette industry in the near term as it transitions
customers used to consuming loose sticks to new pack sizes.
Will other states follow suit?
We would watch if other state governments
emulate Karnataka’s decision. We note that recently Mr Harsh Vardhan, Ex-
Health Minister of India, had mentioned about a ban on sale of loose
cigarettes along with other measures – more stringent fines on smoking in
public places, bigger pictorial warnings etc. However, in the recent Cabinet
expansion, Mr Vardhan has been divested of the Health portfolio.
ITC has managed adverse environments in the past:
ITC has negotiated
adverse policy environments in the past decade well – introduction of VAT
on cigarettes in FY08, 3-5x increase in excise duty of non-filter cigarettes
resulting in ITC’ exit from that segment in FY09 (20% of then volumes), ban
on smoking in public places, pictorial warnings, three consecutive years of
15%+ excise duty increase since FY13 – and managed to post Cigarette EBIT
at 18.7% CAGR over FY09-14 and 17.1% over FY04-14.
Valuation and view:
As stated above, ITC has a proven track record of
managing adverse policy environments and delivering consistent 15% plus
Cigarette EBIT CAGR. Secondly, its FMCG division is showing an improvement
in profitability and a macro recovery should augur well for other divisions.
Hence, a hardening policy environment in Cigarette will constrict the stock
valuations (as witnessed through underperformance of past 12 months, ITC
is now trading at 20-25% discount to tier II consumer names). Thus, despite
our long term positive view on ITC (Buy rating), if the Karnataka ban on sale
of loose cigarettes goes through, we expect the underperformance to
continue.
Gautam Duggad
(Gautam.Duggad@MotilalOswal.com); +91 22 3982 5404
Manish Poddar
(Manish.Poddar@MotilalOswal.com); +91 22 3027 8029
Investors are advised to refer through disclosures made at the end of the Research Report.