Best days behind for ITC stock?



Growth and profitability are moderating now. For the three months ended September, estimated year-on-year cigarette volume growth fell for the fifth straight quarter to 4.5%.

The era of ITC Ltd stock’s spectacular run may be nearing an end. So far in 2023, the shares gained 32%, after having risen as much as 52% in 2022. Yes, the stability in taxes and clampdown on illicit trade by enforcement agencies is aiding volumes in ITC’s mainstay cigarettes business. But growth and profitability are moderating now. For the three months ended September (Q2FY24), estimated year-on-year cigarette volume growth fell for the fifth straight quarter to 4-5%.

“Cigarette volumes have started to cycle a higher base," said Mihir Shah of Nomura Financial Advisory and Securities (India). This means growth will continue to optically come down in the coming quarters.

However, Shah believes growth would be stronger than its historical average. In Q2, cigarette Ebit growth fell to 8% against the double-digit growth of 10-37% seen over the past nine quarters. Ebit is short for earnings before interest and taxes.

To some extent, elevated costs of inputs such as leaf tobacco hurt profitability.

 But what really led to a cut in ITC’s earnings estimates is the performance of paperboards, paper and packaging business where Ebit halved in Q2 due to the impact of low-priced Chinese supplies in the global market and muted domestic demand.

Aggravating these woes were the surge in prices of wood and coal.

Small wonder, ITC’s shares fell by nearly 3% on Friday. Emkay Global Financial Services sees near-term stress from margin pressure in cigarettes and weakness in the paper business.

The brokerage has cut cigarette earnings by 1% over FY24-26 and paper business’ Ebitda by about 15% for FY24.  The outlook for ITC’s agri business is also blurry. In Q2, the segment was affected by the stock limit on wheat, non-basmati rice exports ban and export duty on parboiled rice. While its hotel business saw healthy growth in average room rates, renovations and relatively fewer wedding dates led to flat occupancy levels, which were a dampener.

Meanwhile, compared to most of its consumer staples peers, ITC’s fast-moving consumer goods (FMCG)- others segment is faring well, clocking 8.3% revenue growth in Q2. This was led by strong growth in atta, spices, personal wash, and agarbatti.

Akin to peers, ITC noted a rise in competition from local players amid commodity price deflation.

This weighed on product categories such as biscuits, snacks, and noodles. ITC has stepped up marketing investments to drive growth. Also, the festive season would provide a boost to ITC’s FMCG business. Indeed, that is a bright spot. Plus, valuations at 23 times FY25 estimated earnings are reasonable versus most consumer staples’ peers. But the anticipated growth moderation in cigarettes (78% of total Ebit in H1FY24) may keep significant near-term upsides in the stock at bay, especially after the sharp rally.

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