VAT levy to erode profit margins for ITC

VAT levy to erode profit margins for ITC
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First Published: Fri, Mar 23 2007. 09 22 PM IST
Updated: Fri, Mar 23 2007. 09 22 PM IST
Jay Shankar, Bloomberg
The profit margins of ITC Ltd., India’s biggest cigarette maker, will be eroded by the proposed levy of a value-added tax on tobacco by the nation’s 28 states, Chairman Y.C. Deveshwar said.
“Obviously it will have an impact,” Deveshwar said in an interview in Bangalore today. “How can it not have an impact when 12.5% is levied on top of excise?”
ITC may count on faster growth in new businesses such as foods, retail stores, incense sticks and garments that it has started in the past seven years to minimize the impact of higher taxes on cigarettes. About half the company’s sales comes from tobacco.
“It is going to take a beating initially,” said Viswanathan Vasudevan, who helps manage about $230 million of Indian stocks, including ITC, at Aquarius Investment Advisors Pte. in Singapore. “A lot depends on how the other businesses unfold.”
Shares of ITC, 32% owned by British American Tobacco Plc., fell as much as 3.5 % on the Bombay Stock Exchange on 23 March. ITC shares have declined 17% since the start of the year, compared with a 3.7% drop in the benchmark 30- stock Sensitive Index. The shares fell Rs2.35, or 1.6%, at 146.95 at 10:03 am.“We have started creating multiple lines of businesses some time ago,” Deveshwar said. “That work is in progress.”
A value-added tax levy may erode earnings, analysts such as Princy Singh and Pragati Khadse at Citigroup Inc. have said.“If the average VAT rate of 12.5% is passed on by ITC, near-term volumes would not grow, putting our FY08 earnings per share at a 14% to 15% downside risk,” Singh and Khadse wrote in a note to clients on 20 March. They maintained a “sell” rating on the stock.
They forecast earnings per share of Rs8.68 in the year ended 31 March, 2008, without factoring in value-added tax.“We would like to see how the implementation pans out, which we believe will be staggered,” Citigroup’s Singh and Khadse said.
Since 2000, ITC has set up new businesses and absorbed its hotels unit to reduce dependence on tobacco. India’s health ministry banned tobacco advertising in 2004, making it harder to promote new and existing brands. States, including Delhi, have banned smoking in public places such as railway stations.
The government has also increased cigarette levies. Finance Minister Palaniappan Chidambaram, in the budget for the year starting 1 April, raised the excise on cigarettes by 5%, following a similar increase last year.Cigarette sales volumes fell 13% in the year ended 31 March, 2002, when the government raised tax rates by 15 %, ITC said on 31 January.
West Bengal Finance Minister Asim Dasgupta on 16 March proposed a value-added tax of 12.5% on tobacco and tobacco products in his budget for the year starting 1 April, according to the state government’s Web site.
The upper and lower houses of parliament have approved the Taxation Laws (Amendment) Bill that will allow states to levy value-added tax. The bill includes changes in the Additional Duties of Excise (goods of special importance) Act 1957, which proposes to exclude tobacco, enabling states to levy the tax. The bill needs the assent of the president to become law.
The government hasn’t said if value-added tax will be levied on the maximum retail price of cigarettes or before the application of some taxes.“We would hope it’s also more rational if it’s not levied on excise duty,” Deveshwar said. “The whole idea of VAT is to avoid this cascading.”Taxes on cigarettes in India are more than double the value of the product and about 30 times those on other tobacco items. States don’t levy value-added tax on tobacco products now.Levies on cigarettes, including excise, are almost 130% of the value of the product, ITC said on 31 January.India started levying value-added tax on 1 April, 2005.
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First Published: Fri, Mar 23 2007. 09 22 PM IST
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