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ITC: Lower margins impact profits
Jul 30, 2008

Performance summary
  • Topline grows by 18.4% YoY during 1QFY09 driven by the non-cigarette, agri business, hotels and paperboards businesses.
  • Operating margins decline by 5.3% YoY.
  • Net profits decline by 4% YoY on the back of lower operating margins and higher depreciation charges and tax outgo.


Financials
Rs (m) 1QFY08 1QFY09 (%) Change
Net sales 32,938 38,997 18.4%
Expenditure 21,663 27,727 28.0%
Operating profit (EBDITA) 11,276 11,271 0.0%
EBDITA margin (%) 34.2% 28.9%  
Other income 1,016 1,144 12.6%
Interest (8) 14  
Depreciation 1,010 1,261 24.8%
Profit before tax 11,289 11,139 -1.3%
Tax 3,461 3,653 5.6%
Profit after tax/(loss) 7,829 7,486 -4.4%
Net profit margin (%) 23.8% 19.2%  
No. of shares (m) 3,762 3,769  
Diluted earnings per share (Rs)*   8.2  
Price to earnings ratio (x)   22.0  

What has driven performance in 1QFY09?
  • ITC reported net sales growth of 18.4% YoY during 1QFY09. Cigarette sales grew by 6% YoY. On account of higher rates of excise duties on the non – filter cigarettes, ITC discontinued the manufacture and marketing of non-filter cigarettes in the Plain and Micro segments. However, the conversion of non-filter cigarette smokers to filter cigarettes for ITC is around 80%, which is positive. The branded packaged foods business continued to expand with sales growing by 23% YoY. Biscuits grew by 16% YoY, while revenues of ‘Aashirvaad’ reported a 31% YoY growth. While the stationery business recorded a healthy sales growth of 25% YoY, the lifestyle retailing business was up 15% YoY. In the personal care segment, the company continues to expand its offerings.

    Revenue mix
    (Rs m) 1QFY08 1QFY09 (%) Change
    Cigarettes 16,377 17,397 6.2%
    % of revenues 38.5% 34.0%  
    Others 5,422 6,914 27.5%
    % of revenues 12.8% 13.5%  
    Total FMCG 21,799 24,311 11.5%
    % of revenues 51.3% 47.6%  
    Hotels 2,039 2,390 17.2%
    % of revenues 4.8% 4.7%  
    Paperboards, paper & packaging 4,788 6,059 26.6%
    % of revenues 11.3% 11.9%  
    Agri business 13,867 18,345 32.3%
    % of revenues 32.6% 35.9%  
    Total turnover 42,492 51,104 20.3%
    Less: Inter segment revenues 9,554 12,107 26.7%
    Net sales 32,938 38,997 18.4%

  • Driven by better occupancies, room rates and higher F&B sales, the hotel division grew by 17% YoY. The company’s paper business revenues increased by 27% YoY led by a robust 30% YoY growth of the premium value added paperboard segment and robust performance of the packaging business. The new ‘Ozone bleached’ pulp mill with a capacity of 0.1 m tonnes commenced commercial production in the quarter. Agri business which contributed nearly 36% to the total sales (33% in 1QFY08) grew by 32% YoY. The growth was supported by a strong performance in soybean trading and strong leaf tobacco exports. The company is making constant efforts to reduce its dependence on the cigarette business. Its contribution has reduced from 38.5% in 1QFY08 to 34% in this quarter.

  • On the operating margin front, ITC witnessed a 5.3% decline in 1QFY09. Increase in excise duties on non-filter cigarettes, steep increases in commodity prices and store rentals, along with the launching and brand building expenses of the personal care portfolio and the foods business led to the decline in the margins.

    PBIT margin trend…
    (% of segmental revenues) 1QFY08 1QFY09
    Cigarettes 57.3% 55.3%
    Others -8.2% -17.7%
    Total FMCG 41.0% 34.5%
    Hotels 31.5% 35.7%
    Paperboards, paper & packaging 18.1% 20.4%
    Agri business 3.9% 4.2%
    Total PBIT 25.9% 22.0%

  • On the segmental PBIT front, the cigarette segment witnessed a marginal 2.4% YoY growth in profits, mainly due to inventory write off of non-filter cigarette packaging and cost inflation, primarily tobacco. The PBIT losses in the non-cigarette division grew by 175% YoY mainly on account development costs in the personal care and foods segments. Hotels and paper division witnessed improvements in margins to the tune of 4% YoY and 2% YoY respectively. Inspite of the high cost scenario in the paper segment, the business succeeded in partially neutralising cost pressures by optimising opportunity buying and increasing sales realisations. Agri division reported stable margins.

  • Lower operating margins and higher depreciation charges and tax outgo led the net profits to dip by 4% YoY during the quarter. The effective tax rate increased from 30.7% in 1QFY08 to 32.8% in the quarter.

What to expect?
At the current price of Rs 180, the stock is trading at a price to earnings multiple of 15.9 times our FY11 estimates. While the growth in the cigarette business was positive, the risk of high government taxes continues. Though the company is reducing its dependence on this segment, it still contributes 86% to the PBIT profits, as a result of which in this quarter, the company did witness pressure on margins. Also, its losses from the non-cigarette segment are higher. With the company increasing the product line up and brand building activities on account of high competitive environment, the turnaround of this division will take time. While the hotel segment did do well, the risk of slowdown is a cause for worry. With the risks currently on the higher side, we advise investors to exercise caution while investing in the stock.

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