ITC is navigating one of its toughest quarters in years after a steep increase in cigarette taxation squeezed the profitability of its largest business segment, pushing the company to lean harder on new product launches, portfolio changes and cost control to protect its consumer base, even as its foods, personal care and paperboard businesses picked up the slack.
An analysis of the company’s June-quarter performance by four brokerages, Macquarie, Jefferies, Motilal Oswal and Nomura, shows a business in transition: cigarettes, still its most profitable segment, is absorbing the brunt of a tax increase, while newer growth engines in packaged foods and paper are increasingly carrying the company’s overall numbers.
How ITC is responding to the cigarette tax hike
Standalone cigarette earnings fell 35% year-on-year in the quarter, according to Motilal Oswal, Jefferies and Nomura, after the government sharply raised excise duty on tobacco products. Rather than pass on the entire tax increase to consumers in one go, which risked pushing smokers toward the large illegal cigarette market, the company chose to raise prices in stages through the quarter, according to all four brokerages.
This calibrated approach meant only part of the tax hike showed up in prices during April, May and June, with the full impact expected to show up gradually over the rest of the year, Jefferies noted. Cigarette volumes held up better than expected as a result, down an estimated 5% to high-single digits year-on-year depending on the brokerage, against fears of a much steeper double-digit fall.
To manage the transition, the company introduced more than 30 new products in the quarter, launched an international brand priced to compete with rival offerings, and rolled out longer versions of its king-size cigarettes at the price point vacated by the original variant, giving smokers alternatives within its own portfolio rather than losing them to competitors or the unorganised market, according to Nomura. Following the recent price revisions, earnings per cigarette in the Deluxe segment are now similar to or better than in the Regular segment, which is expected to help as consumers shift toward cheaper variants, the brokerage said.
Roughly 70% of the price hikes required to offset the tax increase have been put through so far, with the rest expected to follow through the year, Macquarie said.
ITC FMCG business: Foods and personal care drive growth
While cigarettes dealt with the tax disruption, ITC’s foods and personal care business, which is grouped under its FMCG-Others segment, continued to grow at a healthy clip. Standalone FMCG revenue grew 12% year-on-year, with dairy, snacks, noodles and frozen snacks all growing more than 20%, and personal care posting mid-teen growth, Motilal Oswal said.
The company’s newer, digital-first and organic food brands, spanning categories such as personal care, snacks and organic staples, crossed an annual sales run rate of Rs 15 billion, growing strongly through the quarter, according to Nomura. Its notebooks and stationery business also staged a strong rebound after a soft patch, the brokerage added.
The one drag within FMCG was its atta, or wheat flour, business, which was hurt by heatwaves, LPG cylinder shortages and unusually low wheat prices that squeezed realisations, Jefferies said. The company has already secured about 95% of the wheat it needs for this business for the season, which should protect it from any price spikes later in the year, according to Nomura.
Despite a sharp rise in the cost of edible oil, packaging material and fuel, which was driven in part by the ongoing conflict in West Asia, the FMCG business managed to expand its profit margin slightly, helped by stocking up on inventory ahead of the price increases and by hedging against rising input costs, Jefferies and Macquarie both noted.
ITC paperboard business posts strongest quarterly performance
The company’s paperboard and packaging business had a standout quarter, with sales growing 9% year-on-year and profit jumping 43%, and margin expanding to 9.4%, according to Motilal Oswal.
The improvement came from better pricing across both its flexible and carton packaging lines, along with a government-imposed floor price on imported paperboard that helped shield local producers from cheap imports, Nomura said. Softer prices for wood, a key raw material, also helped margins, according to Jefferies.
ITC agri business hit by West Asia conflict and weaker exports
The one clear underperformer outside cigarettes was the agri trading business, where sales fell 16% year-on-year, hurt by trade disruptions linked to the West Asia conflict and a high base from the previous year, Motilal Oswal said.
Export orders were delayed as customers deferred shipments amid the disruption, and domestic demand for leaf tobacco was also weaker, according to Macquarie. Stripping out the conflict-related impact, agri sales would actually have grown around 9% year-on-year, Nomura estimated.
What’s next for ITC after the cigarette tax hit?
Cigarette revenue and profit are likely to stay volatile in the near term as the company continues phasing in price increases and monitors how consumers respond, Motilal Oswal said. The gradual price hikes are expected to steadily improve per-cigarette earnings through the rest of the year, with cigarette profitability potentially returning to pre-tax-hike levels as early as the fourth quarter of the financial year, according to Nomura.
Going forward, further tax increases on cigarettes, a bigger-than-expected shift of smokers to the illegal market, and continued cost pressures in FMCG and agri remain key factors to watch, according to the brokerages.