Recently, a few of ITC’s businesses have witnessed encouraging growth traction –volume growth in FMCG business, growth outlook in hotel business and paper business and stabilization in cigarette business.
ITC’s quarterly result marks another quarter of improvement, which is becoming broad-based. While the cigarettes business is stabilizing, we are also encouraged by the improvement in various other growth levers such as hotels, paperboards and FMCG.
Having said that, we continue to highlight that volume recovery in the cigarettes business is still fragile. Hence, investors should keep a close watch at the possibility of higher taxation, which can lead to higher price difference between legal cigarettes and other tobacco smoking sources.
Segmental business: FMCG & Hotels positive
Source: Company
ITC’s topline Q2 results were broadly inline with our expectations. Net revenue grew by 7.3 percent YoY, mainly aided by volume growth in FMCG sector, stabilization in cigarette segment and better business dynamics in paper and hotels segments.
EBITDA margin improved by 150 bps YoY on account of positive operating leverage and improved fundamentals for the non-cigarette businesses.
Cigarette business stabilizing: Quarter under review suggest that ITC’s cigarette business is improving (+10 percent YoY) with an implied volume growth of 5-6 percent compared to ~6 percent decline in Q2 FY18.
Slight dip in profitability was on account of stocks damaged due to floods in Kerala and costs relating to changeover to the new graphic health warnings on cigarette packs.
FMCG (Others): Underling growth in company’s FMCG business is about 13 percent on YoY basis similar as last few quarters driven by branded packaged foods, personal care products (personal wash, fragrance products) and Class mate notebooks partially offset by ongoing restructuring of retail footprint and sluggish growth in the Lifestyle retailing business. Overall trade conditions are improving on the back of demand recovery in rural areas.
Operating margin, though still mediocre, have improved significantly on YoY basis on the back of cost efficiencies, product mix, operating leverage despite gestation period in new categories like Juices, Dairy, Chocolates, and Health & Hygiene segment in the Personal Care Products Business.
Last quarter, couple of brands got attention. Within dairy category, Aashirvaad Svasti milk was rolled out in the city of Patna. Secondly, the recently acquired 'Nimyle' range of herbal floor cleaners was introduced to new markets.
The company also updated that during the quarter a new manufacturing facility was commissioned at Trichy, Tamil Nadu. Over all about fifteen FMCG related projects are underway and in various stages of development.
Paper: One of the most noticeable results was from the counter of paperboard business. Sales improvement was aided by capacity enhancement in value added and decor segments. A rebuild Bhadrachalam unit led to addition of 1.5 lakh tonne value paperboard capacity.
Operating margin (+90bps YoY) improvement was driven by better product mix, process innovation and higher realizations. Strategic investments in imported pulp substitution and process innovation helped in improved pulp yield.
Hotels segment witnessed robust topline and operating margin gain on account of improved industry cycle leading to better room rates, operating leverage and growth in F&B (food and beverages). Company added two properties to its portfolio - ITC Kohenur (Hyderabad) and ITC Grand Goa (Goa).
Agri-business segment profit continued to remain under pressure on account of continued pressure on legal cigarette industry volumes. The company, however, has inched up in the food processing industry with the launch of packaged prawns, super safe spices, fresh fruits and vegetables and dehydrated onions under the ITC MasterChef and Farmland brands. During the quarter under review, the company forayed into the Frozen snacks category in the retail segment under the ITC Master Chef brand.
Regulatory risk needs to be closely watched
Recently, a few of ITC’s businesses have witnessed encouraging growth traction –volume growth in FMCG business, growth outlook in the hotel business and paper business and stabilization in the cigarette business. As the growth drivers are broadening, we are increasingly positive on the stock (25x FY20e of earnings) which is trading at a significant discount to the FMCG sector
However, we continue to highlight that 85 percent of the company’s operating profit comes from cigarettes business. And so given the fact that legal cigarettes business is witnessing a fragile recovery, the possibility of higher taxation remains a key business risk.
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