The downward trend for ITC continues. Motilal Oswal has downgraded ITC to ‘Neutral’ after the government, in its recent notification, increased taxes on cigarettes, effective from February 1. The new rates will increase the taxes on cigarettes by 50%. The share price of ITC is down another 4% after the sharp 10% cut yesterday as result. Motilal Oswal now has a target price of Rs 400 per share. That implies about 10% upside from current levels.
According to the leading domestic brokerage house, “such a sharp tax increase is unprecedented and has surprised us given the backdrop of stable taxes over the last few years.” They highlighted that the tax stability had led to 150 bps volume share contraction of the illicit cigarette market over the last 4-5 years. Motilal Oswal pointed out how thsi period was beneficial for ITC and “its cigarette volume saw 5% growth CAGR (annually on a compounded basis) in the last five years and the stock has run up over 50%.”
Motilal Oswal on ITC: Implication of the tax hike
Given the stability in terms of taxes over the last 4-5 years, ITC has been very active on new product launches in cigarettes. Therefore, the product mix has been positive. However, “given the sharp price hike requirement, the mix will be weaker,” Motilal Oswal pointed out.
They compared the share price performanec with the 2012-2020 phase when taxes were high. Taxes were raised 7 times in 9 years between 2012-2020 phase and the stock as a result was rangebound during that period. However, ITC managed well and delivered positive EBIT growth.
Motilal Oswal on ITC: How will it manage EBIT growth?
In the current scenario, “since the tax increase is sharper this time, it will be a huge task for the company to protect its profitability. Its price hike strategy will be critical (full pass-on immediately or steady increase) to gauge the volume/EBIT sensitivity.”
Motilal Oswal estimates a model 6% EBIT contraction in FY27 and “will monitor the price hike process.” They cut the EPS estimates 12% for FY27 and FY28.”
Motilal Oswal on ITC’s cigarette business
Motilal Oswal values ITC’s cigarette business at 14x December 2027 EV/EBITDA estimates. This, they mentioned, is similar to multiple in earlier in the high-tax cycle. The earlier valuation multiple was of 17x. As a result, the rating has now been downgraded to Neutral.
