Cigarette volumes fell by 7% y-o-y; FMCG margins may drive consensus upgrades; TP revised to Rs 250; ‘Add’ maintained
However, adjusting for tax change in Feb’20 (NCCD increase), cigarettes net revenue declined 8% y-o-y and Ebit margin declined 20bps y-o-y to 73.4%.
Cigarette volume declined ~7% y-o-y in Q3FY21 (our view) — impacted by (i) price hikes (during H1CY20); (ii) urban markets are yet to return to normalcy (for the category consumption). Focus on portfolio fortification, small packs, augmented distribution may potentially help ITC to outperform industry growth in FY22. FMCG Ebitda margins at 10% (including recently acquired ‘Sunrise’ brand) is in line with trajectory improvement and may drive consensus upgrades (of ascribed multiple), in our view.
However, there was moderation in FMCG revenue growth momentum (pantry stocking and in-home consumption slowed down). Consensus is likely to view the higher disclosure levels and interim dividend of Rs 5 (first ever) as a positive (we continue to model Rs 15 dividend for full year FY21). Reiterate Add.
Cigarette volume declined ~7%: Company revenue was flat while Ebitda / PAT declined 7% /10%. Cigarette gross revenues grew 4% y-o-y; however volume declined by ~7% as the industry continued to be impacted by 13% tax hike w.e.f 1st Feb.’20. However, adjusting for tax change in Feb’20 (NCCD increase), cigarettes net revenue declined 8% y-o-y and Ebit margin declined 20bps y-o-y to 73.4%.
Sequential recovery was primarily driven by metros and large town markets. ITC strengthened its supply chain by (i) strengthening direct reach in target markets; and (ii) augmenting stockist network in rural/semi-urban markets. FMCG profitability expansion continued but at a moderated pace: FMCG revenues grew 8% y-o-y on a reported basis which moderated sequentially with consumers broadening their purchase assortment and lower ‘at-home’ consumption on the back of increased mobility. Adjusting for the Lifestyle retailing business restructuring and stationery products (impacted due to closure of educational institutes), revenue grew 11%. Staples, Convenience Food and Health & Hygiene products (75% revenue contribution) growth decelerated to 11% (25% in Q2) while discretionary and out-of-home consumption products recovered to a 11% growth (from -2% in 2Q).
Segment Ebit continued its upward trajectory (+93% y-o-y), improving 260bps y-o-y to 5.8% (Ebitda margin came in at 9.2%). Even on a trailing 12-month basis, Ebit margin has consistently improved to 5.3% as of Dec’20 vs. 0.3% as of Mar’17.
Other businesses recovered sequentially: Agri business revenue grew 18% (driven by trading opportunities in Rice, Soya & Wheat) and Ebit margin declined 230bps to 7.9% due to adverse business mix. Hotels business improved sequentially (+187% q-o-q; -57% y-o-y) due to wedding business, staycations/ motorable getaways – reported `0.7 bn Ebit loss. Further, Hotel business was Ebitda positive in Dec’20 and breakeven for the quarter. Paper revenue declined 5% and Ebit declined 15% y-o-y as Ebit margins declined 220bps to 19.3%.
Valuation and risks: Our earnings estimates are largely unchanged. Maintain Add with a DCF-based revised TP of Rs 250 (was Rs 240). At our TP, the stock will trade at 19x 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.