Robust volume growth across all businesses coupled with better profitability helped ITC post a good show in the December quarter, which looks sustainable
ITC’s cigarette business, its cash cow, has been doing well with volumes growing at a robust rate for three consecutive quarters. For the December 2009 quarter, volumes increased by about 8.5 per cent year-on-year, the highest rate in the last three years. ITC has been successful in churning good performance in its non-cigarette businesses as well. For instance, in its non-cigarette FMCG business, improved product mix in biscuits (Sunfeast and Bingo) and introduction of variants in personal care helped increase sales whereas sustained cost efficiencies lowered the losses. Its agri and paper businesses also reported improved profitability, while hotels is staging a recovery. With better business prospects on the anvil, the stock has outperformed the broader markets in the last 4-5 months. But, imposition of higher VAT by certain states and unfavourable budget initiatives on cigarettes could be overhangs for the stock, going ahead.
Cigarettes: Higher volumes
Unfavourable taxation against cigarettes in recent years partly explains why volume growth for ITC’s cigarette business was not encouraging in 2007-08 and 2008-09. However, it did not disturb the company’s apple cart much as ITC still sells three out of four cigarettes in the country. With a portfolio of popular brands like India Kings, Gold Flake, Scissors and Bristol among others, ITC has managed to sustain leadership position.
In the 2008 budget, the imposition of excise duty on non-filter cigarettes and consequently ITC discontinuing sales of such products had impacted volumes. But, a more or less stable tax regime coupled with the company successfully upgrading customers to filter cigarettes has helped improve volumes. ITC’s cigarette volumes grew by an estimated 7.2 per cent in the first nine months of 2009-10. The faster growth in the December quarter was contributed by King-size premium, Gold Flake Filter and Scissors cigarettes. The introduction of brands like Gold Flake Kings Gold and Navy Cut Kings also enhanced sales.
Recently, ITC also increased the prices of premium cigarette brands like India Kings (by 10 per cent) and Benson & Hedges (by 5 per cent), besides keeping a tab on price increases in the non-premium and low-end filters like Scissors. At 17 per cent year-on-year growth in cigarette sales rounded the December quarter, as its best in the last seven quarters. Overall, expect cigarette volume growth to be around 7-8 per cent for 2009-10 and about 5-7 per cent in 2010-11 (barring sharp increase in duties).
| HEALTHY GROWTH | |||
| in Rs crore | FY09 | FY10E | FY11E |
| Net Sales | 15,388 | 17,578 | 20,474 |
| EBITDA | 4,859 | 6,069 | 7,221 |
| EBITDA margin (%) | 31.6 | 34.5 | 35.3 |
| PAT | 3,264 | 3,973 | 4,707 |
| EPS (Rs) | 8.6 | 10.5 | 12.5 |
| P/E (x) | 28.9 | 23.8 | 20 |
| E: Estimates | |||
Non-cigarettes: Good show as well
A pick-up in economic activity and tourist flows has seen occupancies improve in the hotels business. For the nine-months to December 2009, while revenues and profits of the hotel business were down by about 17 per cent and 43 per cent, these were flat and down 16 per cent, respectively in the December quarter. Going ahead, expect its performance to improve further. ITC’s agri business that accounts for around a fifth of total revenues is also delivering better returns. A shortage leaf tobacco world-over and reduced levels of low-margin commodity trading helped improve overall realisations. Indicatively, EBIT margins improved to 11.5 per cent in December quarter, up from 8.1 per cent in the year ago quarter.
The paper and packaging segments operated at optimum levels. Consequently, its sales grew by 29.4 per cent during the quarter. Importantly, profit margins expanded to an all-time high of 24.8 per cent, up 700 basis points year-on-year, helped by higher sales of value-added products and lower pulp costs led by increased pulp mill capacity.
Better cost management and input sourcing saw its non-cigarette FMCG losses reduce to Rs 86 crore in the December quarter compared to Rs 127 crore in the same period last year. The segment could witness a reduction of losses in 2010-11, and the management expects to attain a break-even in its non-cigarette FMCG portfolio in 2011-12. ITC plans to further improve its product mix in the soap category through launch of new products and variants in the first half of CY10. Overall, combined sales of non-cigarette FMCG businesses registered a growth of 23.6 per cent year-on-year in the third quarter of 2009-10. ITC’s initiatives should see this segment grow at 13-15 per cent for 2010-11.
Conclusion
Despite the ban on cigarette smoking in public places and players mandated to put pictorial warning on cigarette packs, the resilient and inelastic demand has ensured robust volume growth for ITC during the first nine months of the current year. For the second half, steady product prices (price hikes on select brands) would augur well for the company. Besides cigarettes, lower losses in the non-cigarette FMCG business, high profitability in the agri and the paper businesses, along with hotel business expected to deliver better performance in the coming quarters should ensure enhanced earnings visibility.
ITC’s overall margins in the third quarter stood at its highest in many years at 37.3 per cent. Going ahead, expect the margins to hover around 35-36 per cent in 2009-10 and 2010-11. Overall, ITC’s net profit is expected to grow by about 20 per cent in 2010-11. At Rs 247.15, ITC is trading at about 20 times its estimated 2010-11 earnings and can be accumulated on dips.
