Regardless of the company tax cuts (of which ITC was a major beneficiary), return ratios have come off by ~1000bp from the mid-30 ranges seen throughout 2011–15.

Dependence on cigarette biz to persist

Its share of Ebit could also be as excessive as 82% in FY23; ESG issues are a overhang; earnings outlook muted; ‘Impartial’ maintained

Cigarettes’ EBIT dependence will stay unaltered by ongoing ‘Different FMCG’ progress. We retain our Impartial score on the ITC inventory because of the following components: Whereas ITC efforts on the general ESG (environmental, social, and company governance) entrance are actually commendable, the priority over its Cigarettes enterprise from an ESG perspective stays at play – as extra funds flip ESG-compliant (each globally and in India), affecting the valuations of world cigarette firms, together with ITC.

Even when ongoing progress and profitability enchancment in ‘Different FMCG’ results in a 50% Ebit progress CAGR over FY20–23e, the Cigarettes enterprise’ contribution to total Ebit simply barely reduces from 85% in FY20 to 82% in FY23e. Therefore, this doesn’t actually transfer the needle from a Cigarettes dependency perspective. A part of the margin progress in ‘Different FMCG’ in H1FY21 may be ephemeral, pushed by a mix of elevated in-home consumption and smooth commodity prices.

In our view, the potential of GST hikes within the Feb’21 price range or any of the GST council meets stays excessive given weak authorities funds. Importantly, even within the 31-month interval between Jul’17 (GST improve) and Feb’20 (NCCD improve) – when there was no GST improve on Cigarettes – cigarette volumes and Ebit efficiency had been tepid.

The earnings progress outlook within the latter half of the final decade significantly weakened v/s the previous half, and ROEs noticed sharp decline (regardless of company tax cuts). The FY20–FY23e outlook doesn’t seem prone to change on both of those fronts. PBT progress within the final 5 years has been ~6.6% and is prone to be round 7.3% within the subsequent 3 years. With acquisition-led progress gaining traction and self-imposed near-term moratorium on capex finally being lifted, ROE may come beneath additional strain over the medium time period.

Valuation and look at

Regardless of the company tax cuts (of which ITC was a major beneficiary), return ratios have come off by ~1000bp from the mid-30 ranges seen throughout 2011–15. If a sustained excessive dividend payout past the acknowledged 80-85% ranges, mixed with decrease capex (given the weak demand atmosphere), eventuates, it might supply some respite amidst a troublesome outlook for ITC’s income progress and earnings progress prospects. However a robust dividend yield alone is just not sufficient of a consolation, significantly as it’s according to international friends within the Cigarettes enterprise.

Valuations would commerce nearer to international tobacco friends given (i) the dependence on the Cigarettes enterprise remaining excessive; (ii) far weaker earnings progress and ROCE v/s the sooner a part of final decade; and (iii) the persistent danger of additional ESG-based promoting by buyers. BAT trades at 8.1x CY21 EPS and Philip Morris at 13.9x CY21 EPS. Taking the typical multiples of those two international friends and giving ITC a ~30% premium, in addition to rolling ahead to December 2022 EPS, we get TP of Rs 200 (14x December 22 EPS).


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