ITC: Maintain ‘add’ with a DCF-based TP of Rs 240

By: |
July 28, 2021 12:45 AM

We highlight that ITC has high revenue salience from south India (ala Jyothy Labs, V-Guard etc.) and hence stricter lockdowns in Kerala and Tamil Nadu has likely impacted 1QFY22 performance (one-off).

At our target price, the stock will trade at 17x P/E multiple Mar’23E. Key downside risk is tax hikes much ahead of inflation leading to volume pressure (on cigarettes) as price elasticity is still unfavourable.

Cigarette volume rose ~30% YoY in 1QFY22 (our view) — lower disruption in the second wave and a swift recovery post normalcy (vs last year) is reassuring (two-year CAGR ~-12%). FMCG revenue grew +10% YoY despite pockets of weakness; performance in the health and hygiene categories continued to be strong while it lapped a high base in staples and convenience foods. Focus continued on augmenting distribution with FMCG segment seeing steady margin expansion.

We highlight that ITC has high revenue salience from south India (ala Jyothy Labs, V-Guard etc.) and hence stricter lockdowns in Kerala and Tamil Nadu has likely impacted 1QFY22 performance (one-off). We see (1) potential market share gains in the cigarettes (cyclical share gain era of VST and GPI may be coming to an end), (2) FMCG scale up and profitability improvement to continue and (3) potential to accelerate cost savings through a supply chain recast. Reiterate ‘add’; target price Rs 240.

Cigarette volumes grow ~30%: Company revenue was up 37% while ebitda was up 51% YoY; PAT growth was slightly lower at 29% YoY largely due to lower other income. Cigarette gross revenues grew 33% YoY, with volume growth of 30% (two-year CAGR: -12%). Fresh round of mobility restrictions weighed on volumes even as it had almost recovered to pre-Covid levels in 4QFY21; however, recovery in volumes (since mid-June-21) is swift compared to the first wave. Cigarettes EBIT was up 37% YoY to Rs 32.2billion. Volume weakness was more pronounce Kerala, Odisha and the Northeast region. ITC strengthened its supply chain by (1) strengthening direct reach in target markets and (2) augmenting stockist network in rural/semi-urban markets.

FMCG profitability expansion continued but at a moderated pace: FMCG revenues grew 10% YoY (two-year CAGR: 10%) on a reported basis. On a comparable basis, revenue grew 18.8% (education and stationary products segment continued to remain weak). Management highlighted that (1) Hygiene products saw strong sequential growth and grew even on a tough base of last year. (2) Staples and Convenience Foods saw a good sequential uptick but there was no pantry loading benefit for the quarter and (3) Discretionary and OOH product segments reported strong growth (YoY) on a weak base. Segment EBIT was up 38% YoY on a reported basis. Segment EBITDA was up 16% with margin expansion of 40bps YoY.

Valuation and risks: We increased our earnings estimates by ~2%. Maintain ‘add’ with a DCF-based target price of Rs 240. At our target price, the stock will trade at 17x P/E multiple Mar’23E. Key downside risk is tax hikes much ahead of inflation leading to volume pressure (on cigarettes) as price elasticity is still unfavourable.

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