ITC stock shines on improving growth outlook: Here are the key triggers

Steady cigarettes demand, rising agri exports, better prospects of hotels and paper businesses, low valuation and reasonable dividend yield key triggers

Tobacco major ITC has witnessed steady gains over the past month, rising over 18 per cent in an otherwise flat market. Given the uncertainties surrounding high inflation and the war in Ukraine, investors may have been considering ITC as a potential haven.

Positive factors for the stock are as follows: Tobacco has steady demand and ITC is a near-monopoly in the legal Indian cigarettes market -- although most Indian tobacco users prefer other forms of consumption. It has not seen any increase in tax for the second successive Budget.

The other divisions of the company include agri-products and an FMCG/personal care portfolio, alongside a pioneering e-choupal model that connects it with the rural economy. Wheat and, by extension, wheat-based products can see export potential given the Ukraine war, which has removed a huge chunk of global wheat production.

The hotels and hospitality division can see a significant upside from “unlock” trades as mobility returns, alongside economic activity. The paper/paperboards business may also benefit from potential global shortages. The company also has a rock-solid history as a dividend payer, and even at the current market price, it has an estimated yield of 4 per cent, which makes it attractive to certain investors.

On the negative side, tobacco stocks tend to be shunned by “ethical” institutional investors due to their negative medical associations. The firms, on the other hand, claims to be “carbon-positive”, meaning it absorbs carbon and does not add to emissions. This can balance the ESG equation to some extent. ITC also has to contend with competition from smuggled sticks, which are freely available at lower prices.

The company has a strong balance sheet and excellent free cash flow. It has historically been valued at much higher multiples than the current 23x P/E (last four quarters). Given recoveries in the hotels division and the chances of better earnings across other divisions as the economy picks up, the Ebitda margin for the company should improve.

In Q3, 2021-22, ITC saw strong growth in agri-business revenue, up 100 per cent YoY, driven by wheat, rice, spices, and leaf tobacco. In 2021-22, ITC exported a significant quantity of wheat due to poor production in Russia and Ukraine, and government policy could encourage wheat exports with global wheat prices currently at a 14-year high. The hotels division should see strong gains in the topline over the next two financial years if the pandemic finally eases off and vaccination creates herd immunity. There is a chance that legal cigarettes will claw back some market share from smugglers since prices are stable in the absence of tax hikes. It’s estimated around 25 per cent of Indian consumption is smuggled and measures to contain this may add to volumes.

There should be approximately 20 per cent gain to topline YoY in 2021-22 and another 8 per cent revenue gains in 2022-23, and again around 8 per cent in 2023-24. This should translate into a 17-18 per cent rise in Ebitda in this financial year and another 11-12 per cent Ebitda growth in 2022-23 YoY. The estimated free cash flow in 2021-22 is likely to be around Rs 11,700 crore on a topline of about Rs 59,200 crore with PAT held around Rs 15,100 crore. The balance sheet is debt-free. 

The technical parameters look strong with the share price rising sharply through the last month. Investors see fairly predictable future performance from ITC, in a market that is currently facing many uncertainties.