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ITC Vs Altria Vs Sampoerna…. - Views on News from Equitymaster
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ITC Vs Altria Vs Sampoerna….
Mar 24, 2005

Marlboro maker and the world’s largest cigarette manufacturing company, Altria (formerly Philip Morris) is offering US$ 5.2 bn (Rs 234 bn) for Indonesia's third largest cigarette firm, Sampoerna, to expand its share in one of the world's fastest growing tobacco markets. Indonesia is the fifth largest cigarette market globally, after China, the US, Russia and Japan. The US firm will initially acquire a 40% stake in Sampoerna for 10,600 rupiah per share (approx: Rs 50 per share) and then up its stake to 100% through an open offer. This will be one of the largest tobacco acquisitions in recent years. Lets compare our very own ITC, with both Altria and Sampoerna to get a feel of the global valuation perspective.

Some facts and figures…
Out of the 1.2 bn smoking population across the globe, half are in Asia. China, India and Indonesia are seen as especially attractive markets because of large populations and growing affluence. The World Health Organization has projected that cigarette smoking will grow at the rate of 6.5% per annum in East Asia till 2008. Conversely, it will decline 8% in Western Europe and stagnate in the Americas’.

Backgrounds…
Altria: Altria Group is the parent company of Philip Morris International, Philip Morris USA, Philip Morris Capital Corporation and Kraft Foods. Altria Group is also the largest shareholder in the world’s second-largest brewer, SABMiller. Philip Morris International’s brand portfolio includes 7 of the top 20 international brands, including Marlboro (four of every ten cigarettes sold in the U.S. are Marlboros’), which has been the best-selling international cigarette brand since 1972.

Sampoerna: In Indonesia, 6 out of 10 people smoke, and nearly all of them smoke kreteks (mix of tobacco and clove). Sampoerna's best-selling brand is also the country's most expensive smoke, Dji Sam Soe. The government imposes an excise tax on cigarettes, raising 10% of its revenue from them, which has made it dependent in its own way on the continued habit of smoking (like India). Sampoerna, based in Surabaya in East Java, sold 41.4 billion cigarettes last year, 13% more than in 2003, taking in 16.8 trillion rupiah (US$ 1.8 bn) in revenue. The move to take over Sampoerna, which makes Indonesia's pungent tobacco-and-clove kretek cigarettes, underscores the importance of Asia to the future of global tobacco companies. Three big local companies dominate Kretek sales. Gudang Garam and Djarum, the top two, and Sampoerna - make up 92% of the Indonesian cigarette market.

ITC: What Philip Morris is to US, ITC is to India. With a 70% market share in the cigarette industry backed by a wide range of brands, it is the undisputed leader in the country. Out of the top 10 brands in India, 6 belong to ITC. The company is following Altria’s foot steps to de-risk and reduce its dependence on tobacco and today, the company's multi-business portfolio encompasses cigarettes & tobacco, hotels, information technology, packaging, paperboards, agri-exports, foods, lifestyle retailing and greetings & stationery.

How does ITC stack up?
Revenue mix…
(US$ m) Altria Sampoerna ITC*
Total revenues 89,610 1,829 2,911
Break-up:      
Cigarettes 57,047 1,771 2,262
% of sales 63.7% 96.8% 77.7%
Non-cigarette 32,563 59 649
% of sales 36.3% 3.2% 22.3%
* Annualised 9mFY05
Profit mix…
(US$ m) Altria Sampoerna ITC*
Cigarettes 6,726 375 539
% margin 11.8% 21.2% 23.8%
% of profits 71.4% 98.7% 87.8%
Non-Cigg 2,690 5 75
% margin 8.3% 8.5% 11.5%
% of profits 28.6% 1.3% 12.2%
Total EBIT 9,416 380 614
% margin 10.5% 20.8% 21.1%
* Annualised 9mFY05

From the above table, we infer that Altria is the most diversified of the 3 companies’ and depends on cigarettes for only 64% of its revenues as compared to 97% for Sampoerna and 78% in the case of ITC. However, cigarettes contribute 71.4% to the bottomline of Altria, 98.7% to Sampoerna and 92% for ITC. This does indicate that tobacco business is much more profitable for all these companies, as compared to the non-tobacco initiatives.

ITC’s strategy of non-tobacco shift is working and as the dependence on tobacco products is slowly coming down (from 94.5% FY02 to 87.8% in 9mFY05)

Profit mix…
(US$ m) Altria Sampoerna ITC*
Cigarettes 6,726 375 539
% margin 11.8% 21.2% 23.8%
% of profits 71.4% 98.7% 87.8%
Non-Cigg 2,690 5 75
% margin 8.3% 8.5% 11.5%
% of profits 28.6% 1.3% 12.2%
Total EBIT 9,416 380 614
% margin 10.5% 20.8% 21.1%

ITC has the highest margins
ITC is the only debt free company of the three. Altria that has debt of 2.3 times its equity and Sampoerna has 1.92 rupiah of debt for every rupiah of equity. Market cap to sales is the highest for Sampoerna at 2.7x, and that for ITC is 2.4x and Altria is a distant third with 1.5x. One must note here that the stock price of Sampoerna was 8,600 rupiah before Altria’s acquisition news so if you consider a price of 8,600, it translates into a market cap to sales of 2.2x. Altria paid a premium of 20% over the existing stock price.

What to expect?
ITC is slowly and steadily diversifying since it has realised that its topline growth of tobacco products is sluggish over the last couple of years. In recent times, ITC has emerged as the most diversified FMCG company in India with interests in the hospitality, paper and non-tobacco food products. So can it be acquired and get premium valuations resultantly?

The main idea of acquiring Sampoerna was because it is into manufacturing ‘kreteks’ cigarette, a type of cigarette that was not present in Philip Morris’s product offerings. This acquisition gave it a foothold in one of the fastest growing markets. Secondly, unlike Indonesia, the Indian government has taken harsh steps to curtail smoking by imposing high excise and banning advertising by cigarette companies resulting in people shifting from cigarettes to other tobacco products. To that extent Indonesia is more favourable for tobacco companies.

But all said and done, ITC continues to be among our preferred FMCG picks. The company’s emerging strengths in fast growing hospitality industry, paperboards, as well as its continued domination in cigarettes are key positives. Also, the per capita consumption of cigarettes is among the lowest, even when compared to Asian peers. We believe, as India’s demographic profile continues to shift towards higher percentage of middle class (consuming class), per capita consumption will see an increase. Based on all this, we reiterate our BUY view on the stock with a target price of Rs 1,635 with a two to three year perspective.

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